Mortgage APR: What Does It Include?
If you are mortgage shopping for the first time, knowing what an annual percentage rate (APR) includes can help you compare mortgage loan offers. An APR includes more than just the interest rate of your potential mortgage loan — it also accounts for certain fees and additional cost associated with the processing of your mortgage loan. The APR must legally be disclosed in all advertising and is used as a tool for consumers to more easily compare mortgage offers. Keep in mind that lenders do not all include the same fees in their APRs, so pay attention to which ones each lender factors into the rate.
What fees are included in APR?
According to Paul VanderPlaat, a loan officer with Stepping Stone Mortgage in Eugene, Ore., “charges that are included in the APR are prepaid finance charges,” which constitute “anything to do with the cost of getting a loan.” VandePlaat adds that sometimes the fees and charges included in APR can cause confusion because different lenders have various names for fees.
When searching for a mortgage loan, be sure to ask about any fees associated with the loan. VanderPlaat says some closing costs are included in APR, “so anything that is associated with the cost of getting the loan would be included in the APR.”
- Interest. The interest rate of your mortgage loan is included in the APR. This is the amount that it cost to borrow the money you need to purchase your home.
- Points. Also called discount points, points are purchased with cash and help lower the interest rate. The more points you buy, the lower your interest rate will be. Each point is the equivalent 1% of your mortgage loan amount. So if your loan is for $100,000, you’d pay $1,000 for one point. Buying points means paying more upfront when purchasing your home, but the reduced interest rate can save you money on your mortgage payments.
- Mortgage insurance. Homebuyers making less than a 20% down payment generally must purchase mortgage insurance, and FHA and VA loans also require mortgage insurance. Lenders consider borrowers with lower down payments to be a higher risk. Because it protects the lender if the borrower misses a payment or falls behind, mortgage insurance allows the lender to take on this risk. Your mortgage insurance will be added to your loan amount and it will be included in your monthly payment.
- Loan origination fees. This is a fee charged to begin your loan application — also referred to as an application fee — and includes administrative costs like credit checks, processing fees and underwriting the loan.
- Mortgage broker fees. If you choose to work with a mortgage broker to help you shop for loans, the broker will charge for their services.
- Some closing costs. Closing costs can vary widely and include several fees. The lender fees, fees paid to other parties like the appraiser, discount points and sometimes property taxes are included in the closing costs. Paying higher closing costs may also lower the interest rate of your mortgage loan.
What fees are sometimes included in APR?
According to the Consumer Compliance Outlook by the Federal Reserve, some finance charges that can be included in APR are:
- Debt cancellation fees
- Property insurance premiums
- Third-party fees
What fees are not included in APR?
Some closing costs are not included in mortgage APR. Although APR includes a variety of fees, the following fees are usually not calculated within APR:
- Pest and flood inspection
- Attorney fees
- Credit report
- Document preparation
- Escrow accounts (may include property tax payments)
- Home inspection
- Title search
Interest rate vs. APR
The interest rate is the amount of money you pay to the lender each year for borrowing the amount needed to make your mortgage loan. No other charges or fees are included in the interest rate. In the Good Faith Estimate (GFE) summary of your loan, you can find a “yes” or “no” box that will let you know if your interest rate could change or remain the same throughout the life of your loan. The interest rate is used to estimate mortgage payments, but it does not include the total cost of the loan.
Unlike the interest rate, APR includes fees in addition to the interest rate. According to the Truth in Lending Act (TILA), APR “is designed to take into account all relevant factors and to provide a uniform measure for comparing the cost of various credit transactions.” However, not all fees associated with mortgages are included in APR. According to the Federal Reserve website, “Conversely, an APR might not include a charge, such as a credit report fee in a real property transaction, which some state laws might view as interest for usury purposes.” Additional closing costs may not be included in your APR.
How to compare mortgage offers
After deciding on a loan type and the loan terms, the Consumer Protection Financial Bureau suggests requesting loan estimates to compare rates from different lenders. The loan estimate is a three-page document that includes the APR on the last page. The comparison section on page three of the loan estimate lists the APR, as well as the amount of money you’ll pay in the next five years and the total interest percentage. This section allows borrowers to compare multiple offers. You can also quickly compare mortgage offers by filling out LendingTree’s online form about the loan you’re looking for.
You can use the loan estimate comparisons to negotiate with the lender. A lender may be willing to give you another offer if you discuss other offers obtained in your loan estimates. Points and loan options are negotiable, and you may be able to get a better offer if you discuss these with your potential lender. Fees may vary significantly between different lenders’ loan estimates, so make sure you ask lenders to explain any fees that may seem unreasonable.