Why is Calculating APR Crucial Before Taking a Loan?
Annual Percentage Rate
Why is Calculating APR Crucial Before Taking a Loan?
Shiv Nanda
Apr 08 • 3 mins read

Why is Calculating APR Crucial Before Taking a Loan?

3 mins read

What is the first thing you considered while taking a loan from any bank? Most people will answer the interest rate! You assume that the bank offering the lowest interest rate is your best option. But you are not told the whole truth in that communication. There are other charges or fees also which you need to pay. When you include these in your loan cost, you reach APR, meaning the annual percentage rate.

Does the above explanation raise more questions than answers? Don’t worry. We are here to clear all your possible queries regarding APR.

What is the Annual Percentage Rate?

The APR is the actual yearly cost of your loan for any tenure. It adds your interest fees and any other charges levied by the lender. The charges include processing fees, insurance costs, etc. APR is calculated in percentage. It may be equal to or higher than the interest rate charged on loan.

How to Calculate APR?

The formula for calculating APR is as follows:-

APR= [{(Fees + Interest)/ Principal}/ n]*365*100

The n represents the tenure of the loan in the number of days.

Let’s calculate the APR of an imaginary loan you are going to apply for. Let’s say the loan amount is 5 lakh. You want to take it for 3 years, i.e., 1095 days. The rate of interest offered by the bank is 12%. The insurance cost is 4700, the processing fee is 7500, and the interest cost is 180000. What would be your APR in this case?

APR = [{(12200 + 180000)/ 500000}/ 1095]*365*100 = 12.81%

So there is a .81% difference between the interest rate of bank and APR.

What are the benefits of APR?

  • APR is a total of all kinds of fees associated with the loan. Thus it is a powerful tool that provides clarity about the actual loan cost.
  • You can make out which is the actual cheap loan provider with the help of the annual percentage rate.
  • APR is a standard calculation that works for all kinds of bank charges. So you can apply it for any bank loan offer.

Why Calculating APR is Crucial While Applying for Personal Loan?

When you apply for a personal loan, you want it to be at a low-interest rate. The banks which will offer you the lowest rate will attract you the most. But as you’ve seen here, we know the actual lending cost when we calculate the APR.

Thus, you should check out all the significant, small charges levied by the banks on their personal loan and then decide. And annual percentage rate is meant to be for fixed interest loans such as a personal loan. It doesn’t work for the floating interest rate.

How Can You Decrease APR of Your Ongoing Loan?

  • Pay your bills on time. Don’t miss your EMIs and credit card dues. Do all this, and you will get a good credit score. Banks are ready to make considerations for a borrower with a high credit score.
  • You can transfer your remaining loan to another bank offering a lower interest rate. But remember calculating APR before doing that.
  • If you acquire goodwill to pay the instalments timely, banks might oblige your request to reduce the annual percentage rate.
  • You can take another loan from another bank at a lower APR. And you can repay your existing loan in full with that amount.

Wrapping Up!

The banks won’t tell you about APR. You need to figure it out yourself. The sad truth is most financial institutes don’t make their customers aware of calculating APR. There was a time when people like you didn’t even know what the APR meaning is. But with increasing awareness, you are an educated and sensible borrower. You should always calculate the annual percentage rate and encourage others to do so.

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