The annual percentage rate is the standard disclosure for borrowing in the United States under the Truth in Lending Act (Regulation Z), which describes it as a measure of the cost of credit, expressed as a yearly rate. The CFPB explains that a loan's interest rate is the lender's charge for borrowing the principal, while the APR also reflects fees such as origination charges and other fees charged when the loan is made. Two loans with the same interest rate can therefore have different APRs, and the APR is the better figure for comparing total borrowing cost.
Formula
Under Regulation Z, Appendix J, the APR is determined by multiplying the rate per unit-period by the number of unit-periods in a year:
APR = periodic rate × periods per year
- Periodic rate: the rate per unit-period, such as per month.
- Periods per year: 12 for monthly periods, 52 for weekly, and so on.
Because it is a multiplication, APR does not include compounding within the year.
Example
A credit card that charges 1.5% per month has an APR of 1.5% × 12 = 18%. If an unpaid balance compounds monthly for a full year, the effective annual cost is (1.015)^12 − 1 ≈ 19.56%, higher than the stated APR. That effective figure is computed the same way as an APY on a deposit.
APR vs APY
APR describes what a borrower pays and leaves out compounding; APY describes what a saver earns and includes it. A lower APR is better for a borrower; a higher APY is better for a saver. The compound interest calculator shows how much compounding adds to a nominal rate, and the CD vs high-yield savings guide explains why deposit accounts quote APY instead. Lenders also weigh a borrower's debt-to-income ratio when setting terms.
Common mistakes
- Treating APR as the full annual cost of revolving debt. With monthly compounding, the effective rate is higher.
- Comparing one loan's interest rate with another loan's APR. Compare APR to APR.