# What is Mortgage APR, Can You Explain It?

By
Mortgage and Lending NMLS 291249
http://actvra.in/PYC

WHAT IS MORTGAGE APR, Can You Explain It?

APR Demystified

First, lets demystify the calculation for Annual Percentage Rate (APR).

Mortgage APR was designed to allow consumers to use one standardized number to compare each lender's rate for the same type of loan while rate shopping.  It is supposed to represent the borrower's cost and it works like this.

If I lend you, \$10,000  and, I charge a \$500 Bump-ta-Bump Fee, you will actually receive \$9,500, however you must still repay me \$10,000.  Mortgage APR is my real yield and your real cost on this loan.

We agreed that you will repay the loan at 8% interest on \$10,000, HOWEVER you only received \$9,500 therefore I will earn more than the 8.0% interest rate I charge on \$10,000.  In this case, my yield (APR) is 9.799% on the \$9,500 you actually received.

APR is the lender's yield on dollars actually lent (\$10,000 minus \$500 = \$9,500); in this case, the lender's yield (APR) on \$9,500 is 9.799%   (APR is computed as if the above example is a 30 year loan)

The \$9,500 also represents the Amount Financed in the Truth In Lending (TIL) disclosure.

For those of you who use spreadsheets the Rate Function will find APR.  Use the Amount Financed for Loan Amount and use the monthly payment on the actual loan amount.

Fees that must be subtracted from a mortgage loan to properly calculate Amount Financed for APR

• Origination and Discount Points
• Processing and Lender Fees
• Pre-Paid Interest (Use 15 days when closing date is unknown)
• Monthly Mortgage Insurance must be added to the payment of all FHA loans and Conventional loans greater than 80% loan to value.
• The inclusion of Mi or MIP accounts for the large spread between Rate and APR on loans with mortgage insurance.

NOTES:  FeesNot used in APR calculation; third party fees such as appraisal and credit.  APR can only be compared on loans of the same type and amortization period

How Do APR Predators Work?

Many sophisticated borrowers shop interest rates by searching for lowest APR which, if property stated, is a valid way to compare similar loans.  Unfortunately, APR is not always stated properly.

How is advertised Mortgage APR is misstated?

• Prepaid Interest is not included - most common deception and true on all online Rate sites   i.e.: Bankrate.com, Interest.com, Mortgage101.com, ShopRate.com, etc.
• Prepaid Interest is understated - must be 15 days when closing date is unknown.
• MI or MIP is not included in the APR on any online rate sites, Bankrate etc.
• Some lenders do not include MI or MIP on their web sites such as Amerisave.com
• Lender fees are either understated or not included in the APR calculation.  This is a tricky one because No or Low Lender Fees does not necessarily indicate a predatory lender.  Some lenders charge a higher rate and no points or fees for their so called "Zero Cost" loan.  However, the "Zero Cost" rate will always be higher than a rate with points and/or fees.
• Notes to the above:
• there is no such thing as a Zero Cost loan and some states prohibit lenders from advertising Zero Cost Loans.
• The spread between Rate and APR on loans greater than 90% LTV should be at least 0.700%.  When it is not... you are being scammed

Rate - Points - Fees are all interdependent

The best way I can explain this is show various Rate - Point - Fee combinations where the lender is making the same gross profit on each combination

In the examples below, we will use a \$200,000 loan amount and Lender gross profit of \$1,000, on a day when the Lender's cost for a 5.000% rate is par (0 point).

Best Rate:  \$1,000 Lender profit in various combinations of points and fees

 Rate Fees Points APR Profit 5.000% \$1,000 0 5.044% \$1,000 5.000% \$500 0.250 5.044% \$1,000 5.000% \$0 0.500 5.044% \$1,000

Lowest Fees:
Increase the rate to 5.125% and you pay \$0 points and fees and Lender's investor pays the lender \$1,000 for the higher rate.

 Rate Fees Points APR Profit 5.125% \$0 0 5.125% \$1,000

The point here is that lenders design their loans to provide talking points for their sales staff (loan officers).  They all require a certain profit margin and it is not important the way the loan is structured as long as the closed loan delivers their required profit margin.

This illustration also points out the value of correctly stated APR as a way of comparing mortgage loans.  For the sake of these illustrations, prepaid interest was not used.  If 15 days PP was calculated it would have increased each APR by 0.019%.

close

Re-Blogged 36 times:

Re-Blogged By Re-Blogged At
1. Gene perez 09/13/2009 06:50 PM
2. Donald Bradbury 09/13/2009 09:06 PM
3. Kathleen Sheridan 09/14/2009 09:13 AM
4. Georgie Hunter 09/14/2009 09:48 PM
5. Lyn Sims 09/17/2009 06:36 PM
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15. Joan Whitebook 11/15/2009 08:30 AM
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22. Bob Souza (925) 513-3400 & Leilani Souza (916) 408-5500 Souza Realty - Real Estate Broker in Placer County, California 11/20/2009 01:10 AM
23. Anthony Ebright - NMLSR ID #247647 Purchase and Refinance Mortgages 11/20/2009 01:50 PM
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25. Delete Account 11/22/2009 09:44 PM
26. Lori Martinez 01/08/2010 09:00 AM
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35. Joseph Metzler 06/08/2010 11:52 AM
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37. Kathy Scipione 04/04/2013 11:22 PM
38. Fred Griffin 04/07/2013 04:39 PM
39. Susan Haughton 06/26/2013 05:56 PM
Topic:
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what is mortgage apr

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Rainmaker
589,539
Gary Frimann
Eagle Ridge Realty / Signature Homes &amp; Estates - Gilroy, CA
California Broker and REALTOR

Well explained.  Certainly one of the most difficult questions we try to answer to make a client understand.

Jul 28, 2012 02:52 AM #174
Rainmaker
139,045
Jeanne Kozak
RE/MAX In Action - Martinsburg, WV
REALTOR and Broker/Owner in WV and VA

Wow, my head is spinning, it is no wonder consumers are confused. APR is definitely something that abuyer needs to reawlly talk about with their lender. I am going to read this again and get a better grasp on it

Jan 25, 2013 04:55 PM #176
Rainmaker
1,187,076
Joan Whitebook
BHG The Masiello Group - Nashua, NH
Consumer Focused Real Estate Services

This is a great post explaining APR.  Is is very difficult to get a handle on.  Thanks for this information.

Jan 25, 2013 07:33 PM #177
Rainmaker
657,757
Escondido, CA

Jeanne, APR is the most confusing number in lending when the original idea was to make things simple.

Jan 25, 2013 09:59 PM #178
Rainmaker
823,347
Sharon Parisi
Keller Williams Dallas Premier Realty - Dallas, TX
Dallas Homes

Bill, this is an excellent explanation of APR.  I have had some loan officers who are not able to explain APR.

Jan 25, 2013 10:28 PM #179
Rainmaker
278,717
Aston McLaren Inc - Vail, CO

I have been astounded by the lack of understnding of APR. Borrwoers do not seem to care and they chase the perceived lowest "rate"

Jan 26, 2013 03:10 AM #180
Rainmaker
657,757
Escondido, CA

Sharon, unfortunately many loan officers cannot explain APR. Use APR as a test when enterviewing LOs.  If they cannot explain it to you they cannot explain it to their borrowers.

Paddy, unfortunately you are correct.  That is why borrower education is so important.

Jan 26, 2013 09:22 AM #181
Rainer
278,237
Steven Cook
No Longer Processing Mortgages. - Tacoma, WA
- Pierce, King, Kitsap, Thurston, Mason Counties

Bill -- what a great explanation of the APR that people are supposed to be using, so by extension so many lenders are abusing.  The one other thing that I usually notice on "Lowest rates" advertising is that they are limiting it to 15 years, and then requiring 70 or 80% LTV -- it would be interesting if everyone had to use the same loan amount, over the same period, with same LTV - for their example.

Jan 26, 2013 11:21 AM #182
Rainmaker
657,757
Escondido, CA

Steven, that is really a great idea.

Jan 26, 2013 11:32 AM #183
Rainmaker
1,494,253
Charles Stallions
Charles Stallions Real Estate Services - Pensacola, FL
800-309-3414 - Pensacola, Pace or Gulf Breeze, Fl.

That about puts it in simpliest of terms and easy to read and understand. Good Luck Bill and Happy Posting

Apr 04, 2013 04:56 PM #184
Rainmaker
1,187,076
Joan Whitebook
BHG The Masiello Group - Nashua, NH
Consumer Focused Real Estate Services

Thanks for this explanation.  I must admit I find all of this quite confusing.. if the government thought APR was going to make it easier for consumers, I think they missed the boat.

Apr 04, 2013 06:21 PM #185
972,703
Fred Griffin
Frederick Griffin, Licensed Real Estate Broker - Tallahassee, FL

Good explanation.  I have been at this a long time; nothing is as confusing to Borrowers/Buyers (and Realtors) as APR!

Apr 04, 2013 07:32 PM #186
Rainmaker
483,689
John G. Johnston
John G. Johnston &amp; Associates, LLC - Westcliffe, CO
An Exclusive Buyer's Agent ~ Westcliffe, CO

Bill Now you have scared the bejiggers out of me.  I feel like a buyer or seller that read an article on Zillow or Trulia and now knows the market!  I'm beginning to feel like an expert!  Well written and thanks

Apr 04, 2013 07:35 PM #187
Rainmaker
155,602
Wika Hutchinson
Eugene, OR
Broker, CRIS, SFR, CDPE

Thank you for sharing a great information Bill. I enjoyed reading your post.

Apr 05, 2013 12:05 AM #188
Rainer
17,849
Randy Hilman, Associate Broker, GRI, CBR
Randy Hilman Homes at Keller Williams Lakes &amp; Mountains Realty - Moultonborough, NH
Your Trusted Friend in Real Estate

Hi Bill:

Informative blog.  I thank you for sharing it.  I need to work through some of your examples with my HP12C.

Apr 05, 2013 04:46 AM #189
Rainmaker
1,075,351
Gary L. Waters, Broker Owner Waters Realty of Brevard, LLC
Waters Realty of Brevard, LLC - Melbourne, FL
Small Office, Big Service

I am not sure many consumers understand the difference between interest rate and APR.

Apr 07, 2013 04:43 PM #190
Rainmaker
657,757
Escondido, CA

Charles, thank you, a simple mind is able to state things simply.

Joan, there is a lesson here about politicians doing most things.

Fred, Kind of what I said to Joan.  Politicians can even screw up a good idea.

John, thanks. The good news is that we can never know too much.

Wika, I enjoyed that you read my post.

Randy, a good man with a HP12C can rule the world.

Gary, you are correct and that causes problems for those cannot explain the difference.

Apr 08, 2013 02:37 PM #191
Rainmaker
1,015,576
Sharon Alters
Coldwell Banker Vanguard Realty - 904-673-2308 - Fleming Island, FL
Realtor - Homes for Sale Fleming Island FL

Bill, I have a more complete understanding of APR thanks to your very thorough explanation. Deducting the fees from the amount borrowed and calculating the interest on that amount - now I understand it!! And the example of how the lender can arrive at the same gross profit depending on what the borrower can stand or is willing to pay is very helpful. Thanks!! Sharon

Jun 26, 2013 07:12 PM #192
Rainmaker
1,470,935
Richie Alan Naggar author PEARLS FOR THE SOUL .com books
People first then business! Ran Right Realty Riverside, Ca - Riverside, CA
Life-Love-Intimacy-Purpose + Real Estate too?

The first time I tried to explain this many years ago, I taught myself a lessen in GIBBERISH...In other words, I dint know and wouldn't admit. Today I have enough sense to say, that is a good question ask a loan officer

Jun 27, 2013 07:14 AM #193
Rainmaker
657,757
Escondido, CA

Hi Sharon, I am pleased the article helped.  Thanks for your comment.

Hi Richie.  It is a shame that APR is so confusing.  You are right, it is a good question for loan officers.

Jun 27, 2013 07:25 AM #194
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Rainmaker
657,757