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Mortgage APR vs. Interest Rate: What’s the Difference?

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Comparing an APR vs. interest rate may seem a bit complicated at first, because it’s important to understand they aren’t one and the same. An APR, or annual percentage rate, represents the total cost of taking out a mortgage, including the interest rate, lender fees and mortgage insurance. On the other hand, the interest rate represents what you’ll pay over time to borrow that money.

What is an annual percentage rate?

A mortgage annual percentage rate is a broad measure of the total cost to borrow that mortgage. It’s expressed as a percentage and is usually higher than a mortgage interest rate. APRs include the mortgage rate, as well as the other costs of borrowing, such as:

  • Loan origination fees
  • Mortgage points
  • Mortgage insurance
  • Other closing costs

APRs make it easier for consumers to compare loans with different rates and fees. When you apply for a mortgage and receive a loan estimate, you can find your APR on Page 3 of the document.

Understanding APR vs. interest rate

A mortgage APR factors in the various costs of getting a mortgage; a mortgage interest rate is simply the amount your lender charges to finance your home purchase.

Both an APR and interest rate are expressed as a percentage of the loan amount. However, the difference between an interest rate and APR is that an interest rate doesn’t include any of the fees and points that are part of an APR calculation.

A useful way to compare mortgage offers is to pay attention to interest rates as you shop around. After all, a lender will use your interest rate to calculate the estimated monthly payment for your given loan amount and repayment term.

Still, mortgage lenders are required by law to disclose the annual percentage rate in a mortgage transaction. This is because it measures the full cost of credit, something that interest rates don’t take into account.

Consider the following example that compares two different 30-year, fixed-rate $200,000 mortgages. The home’s purchase price is $250,000 for both loans, meaning the borrower made a 20% down payment.

Along with origination fees, both loans have mortgage points, which is money a borrower pays upfront to get a lower mortgage rate. One point is equal to 1% of the loan amount, so each point in the example above costs $2,000.

At first glance, Loan A appears to be a slightly better deal since there’s a $1,250 difference in points and fees. Additionally, the monthly mortgage payment (based on the adjusted loan balance) is about $5 lower than Loan B. We’ll need to calculate each loan’s annual percentage rate for further comparison.

Calculating APRs

You’ll need to use a mortgage APR calculator to determine the APR, because of several more complex variables to input than a basic calculator can handle.

There are two ways to calculate APR: the actuarial method, which most lenders use, and the U.S. rule method. APR calculation examples using the actuarial method can be found on the Consumer Financial Protection Bureau’s website.

Loan A  Loan B
Annual percentage rate  2.887% 2.936%

For the example above, we used an online mortgage APR calculator and input information based on the original loan amount of $200,000. The APR on Loan A is lower, making it indeed the better mortgage deal.

Bottom line: If you’re comparing two mortgages that have the same interest rate and appear to be similar, review the APRs to better understand the true cost of each mortgage.

Watch out for APRs on ARMs

A 15- or 30-year mortgage with a fixed interest rate isn’t everyone’s loan preference. Some homebuyers may prefer an adjustable-rate mortgage (ARM), especially because their interest rates — before they begin adjusting — are typically lower than fixed-rate mortgages.

In the case of a 5/1 ARM, the rate is fixed for the first five years of the loan and then adjusts annually thereafter according to a benchmark interest rate known as an index, plus a margin, or amount of percentage points your lender adds to the index to calculate your interest rate.

The APR on a 5/1 ARM is calculated based on the assumption it will remain at its starting rate for five years, then change according to the current index and the lender’s margin, and continue adjusting annually for the remaining 25 years.

It’s doubtful that in five years when the interest rate adjusts, the benchmark rate it’s tied to will be at the exact same level it is today. It’s also practically impossible that the benchmark rate will then remain the same for the remainder of the loan term. As such, calculating the APR on an ARM is like a moving target.

If you really want to compare the APR of ARMs, get your mortgage quotes on the same day, and preferably around the same time. Remember to compare APRs for loans with the same rate type and repayment term: 30-year fixed to 30-year fixed, 5/1 ARM to 5/1 ARM and so on.

3 tips to remember when loan shopping

The main takeaway is that shopping around for a mortgage will help you get your best deal. It’s not always easy to compare apples to apples while evaluating mortgage offers, but combing through your loan estimates can help.

Don’t just settle on one mortgage lender before doing your due diligence — pick three to five lenders. Taking the time to comparison shop can potentially save you thousands in interest over the life of your loan.

Keep the following tips front of mind as you prepare to get a mortgage:

  1. Improve your credit profile. Your credit score affects your borrowing costs. Put yourself in a more favorable position with lenders by making on-time payments for your existing accounts, paying down your outstanding balances and removing any errors you may find on your credit reports.
  2. Ask about mortgage rates. Ask each lender you contact for a list of their current mortgage interest rates, including information on whether the rates are fixed or adjustable and the repayment terms to which those rates apply.
  3. Negotiate costs and fees. You’ll pay several closing costs when taking out a mortgage, including underwriting fees, title fees and other third-party charges. When you receive your loan estimates, review these costs and negotiate where you can.

APR and interest rate FAQs

What is amortization?
When you pay down a mortgage over time, that’s amortization, or the gradual reduction of debt by making scheduled principal and interest payments.

What are origination fees?
Origination fees are upfront charges a lender imposes to fund your mortgage. They may refer to a variety of different fees added together, such as underwriting and processing fees, and other administrative costs. Origination fees are listed on Page 2 of your loan estimate.

What are mortgage points?
Mortgage points, also called discount points, are fees paid directly to a mortgage lender in exchange for a reduced interest rate. This may also be referred to as “buying down the rate.” Paying points also lowers your monthly mortgage payment. One point is equal to 1% of your loan amount.

What is a mortgage rate lock?
A mortgage rate lock is a commitment between a mortgage lender and borrower that allows the borrower to secure a specific interest rate on their loan for a predetermined period. The interest rate won’t increase or decrease during that time frame, provided there are no changes to the borrower’s financial profile.

What’s mortgage insurance?
Mortgage insurance is a policy that protects your lender in case you fail to repay your mortgage, known as default. If this happens, your lender will foreclose on the property and try to sell your to recover the money they lost. Mortgage insurance helps make up the difference if your home sells for less than what’s owed on your loan.


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