Annual Percentage Rate (APR): What does it mean?

Calculated by using a standard formula, the APR shows

the cost of a loan expressed as a yearly interest rate and includes the interest, points, mortgage insurance, and other fees associated with the loan. Because the APR takes into consideration all of these costs spread over the term of the mortgage, it is supposed to reflect for the consumer, the "true" cost of borrowing money. It also prevents lenders from hiding fees and any upfront costs from consumers.

All mortgage lenders and brokers are required by federal law to disclose the APR to consumers who apply for a mortgage in a diclosure called the Federal Truth-in-Lending. The APR was conceived as a way for consumers to compare the cost of borrowing among different lenders. However, the way in which the APR is calculated is not neccessarily the same from lender to lender, making this a less-than-perfect method of cost comparison shopping. Additionally, the APR does not take into account loan pre-payments, including early pay-offs.

APRs for Adjustable Rate Mortgages (ARMs) or for Balloon mortgages are less credible as there is no way to know exactly what the interest rate will be during the term of the loan. Thus, certain assumptions about the rate changes are made for the purpose of calculating APRs on ARMs and Balloons.

Therefore, consumers should consider other factors when deciding with which lender they should apply. Those may include the integrity and knowledgeability of the loan officer representing the lender or how long they plan on holding the loan.