Questions you should ask the lender

Is the APR variable or fixed?

If it is variable, your payments can go up or down in line with interest rates. If it is fixed, your payments will remain the same throughout the life of the loan agreement.

Are there any additional charges not included in the APR?

This could include none compulsory insurance to protect your repayments, or in the case of a credit card, a balance transfer fee. (I personally believe that a balance transfer fee should appear as part of the APR as it is a compulsory payment if you want to transfer a credit card balance. Nevertheless, credit card issuers are currently quoting a balance transfer APR of 0% with a "balance transfer fee" or around 3%, so beware of this.

Advice

Always check the APR

The APR is the best and easiest way to compare loan and credit agreements.

Make sure you can afford the monthly repayments.

Don't borrow more than you can comfortably afford to repay.

Annual Percentage Rate (APR) Explained

What is an APR?

APR is an acronym that stands for Annual Percentage Rate. It is worked out in a standard format and therefore can be used to compare different credit cards and loan agreements.

What factors does the APR include?

The APR includes:

  • The rate of interest payable
  • How the loan should be repaid, eg the length of the loan agreement, the frequency and the amount of the repayments.
  • Other fees associated with the loan, eg for a mortgage this could be an arrangement fee.
  • Premiums for insurance that the lender makes you purchase alongside the loan.

It is a statutory requirement of all lenders that they tell you what the APR is before you sign a credit agreement. Whilst APRs vary from lender to lender, it is usually best to choose the loan with lowest APR.

Examples of how the APR works.

Example 1:

You borrow £10,000 for 1 year at an interest rate of 10%. You keep all the money for one year and repay the total in one sum at the end of the year.

  • At the end of the year, you will repay £11,000
  • In this case, the APR and the interest rate are the same - 10%

Example 2:

You borrow £10,000 for 1 year at an interest rate of 10%, but you pay the loan off over the year in 12 equal monthly repayments of £1,000 (total amount repaid £12,000).

  • The interest rate is still 10%
  • The APR is approximately 20%

The reason for this difference is because the flat interest rate does not take account of the money you have paid back over the year. The APR takes this into account. It is easy to get confused over the difference between a "flat" interest rate and an APR. This is why it is the APR that should be used for comparison purposes.