What Is Annual Percentage Rate (APR) on a Mortgage?

What Does APR Include?

APR includes several components that contribute to the overall cost of a mortgage. While all possible fees may not be included, APR typically accounts for the most significant lender-related charges such as:

• Interest rate: This is the base cost of borrowing the loan amount and directly affects how much you pay in interest over time. 
• Origination fees: These are the lender fees charged for processing and creating the loan, often expressed as a percentage of the loan amount.
• Underwriting fees: Underwriting fees cover the cost of evaluating your financial profile and loan risk during the underwriting process. 
• Closing costs: Certain closing costs, such as lender fees paid at closing, may be included in APR calculations.
• Discount points: Discount points are optional upfront payments made to lower your interest rate and are reflected in your APR when used.

APR vs. Interest Rate: Key Differences

Although APR and interest rate are closely related, they are not the same. Knowing the difference between APR and interest rate can help you better evaluate mortgage offers.

Types of Mortgage APRs

APR can vary depending on the type of mortgage you choose. Whether you select a fixed- or adjustable-rate mortgage will influence how your APR behaves over time.

• Fixed APR: A mortgage with a fixed APR is based on a fixed interest rate, meaning the APR remains the same for the entire loan term. This provides predictability and stability, making it easier for borrowers to plan for long-term housing costs without worrying about rate changes.
• Adjustable APR: An adjustable APR is tied to an adjustable interest rate, meaning the APR can change as the rate adjusts over time. While these loans may start with a lower APR, future increases can raise borrowing costs. 

How to Figure Out Your APR

You don’t need to calculate your own APR, as lenders are required to disclose it. You can usually find your APR on your Loan Estimate and Closing Disclosure documents. These standardized forms make it easier to review and compare offers.

While the actual formula is complicated, there's a simple way to get a rough estimate of the APR that allows you to take both interest rate and fees into account in estimating your loan costs. Here's what it looks like:

Estimated APR = Interest Rate + ((Fees/Loan Amount) / Loan Term (in years))

Let's look at an example. Let's say you're offered a mortgage that looks like this:

• Loan amount: $400,000 (This is the amount you're borrowing up front to buy your house)
• Loan term: 30 years (This is the length of time it will take you to pay back your loan)
• Interest rate: 6.00% (This is the cost of borrowing)
• Fees: $8,000 (This is your upfront costs, like your loan origination fee)

Here's what that looks like when we plug the numbers into our formula:

• First, calculate the fees divided by the loan amount: $8,000 / $400,000 = 0.024
• Next, divide that number by your loan term: (0.02/30) = 0.067%
• Add the fees to the interest rate: 6.00% + 0.067%

This gives you an estimated APR of 6.07%. That's a little lower than the actual APR of 6.186%. 

The reason it's hard to find a formula that will calculate APR exactly is that mortgages are structured in a specific way, where you pay more interest up front. Your mortgage lender also amortizes (or spreads out) the fees over the whole loan. 

The math to do that is really complicated, but fortunately, you don't have to do it -- just look at your lender's APR estimates and remember that it's a more accurate representation of total fees than interest rate alone. 

Annual Percentage Rate FAQs

Below are answers to some common questions borrowers may have about mortgage APR.

Is It Better to Have a Lower Interest Rate or Lower APR?

Having a lower interest rate or APR depends on your financial goals, but APR is usually more useful for comparing loans because it reflects the total cost of borrowing. A lower interest rate with high fees may end up costing more than a loan with a slightly higher rate but lower APR.

What’s a Good APR for a Mortgage? 

A good APR depends on market conditions, loan type, and your financial profile. Generally, a competitive APR is close to the interest rate percentage and lower than comparable offers from other lenders.

How Can You Qualify for a Better APR?

You can qualify for a better APR by doing things like improving your credit score, lowering your debt-to-income ratio (DTI), saving for a larger down payment, and shopping around with multiple lenders.

Final Thoughts: Using APR to Know Your True Mortgage Cost

APR is one of the most valuable tools buyers have when evaluating mortgage options. By looking beyond the interest rate and considering the full cost of borrowing, you can compare offers fairly and choose a loan that fits your financial goals. If you’re ready to take the next step, consider exploring your mortgage options or getting prequalified to see what rates and APRs you may qualify for you.