Everywhere we go, everything we watch, and everything we hear, at some point, has mention of APR. Car loans, home loans, 6 months same as cash, and nearly anything else having to do with loans. Do you really know what APR is? Don’t feel ashamed if you don’t. Many people hear the term every day but no idea what it is or what it means.
APR is an abbreviation for annual percentage rate. Simply put, it’s the amount of interest you would pay in a year on a purchase. So let’s say that you found a great deal on a big screen, flat panel, plasma TV. The thing is as big as your entire living room wall and it is going to revolutionize your TV watching life. That great deal? $3,000! You can’t pass it up, though, when the store offers you financing. This great deal has a great APR of 10%. Is it a great deal?
Let’s assume that you didn’t pay anything on this TV for a full 12 months. Not even one dime. If your annual percentage rate is 10%, you will owe $3,300 on your new TV but that’s not the end of the story.
There are different ways to calculate APR. If the finance company calculates APR by compounding the interest monthly, that means that each month they add the interest to the original amount so your “original amount” increases each month. If the interest is compounded, the cost of your TV after 12 months is $3,314.14. Not a big deal but if the loan amount was higher, that could be a substantial amount.
Of course there is also something called variable vs. fixed interest rate. A fixed rate is exactly that. It rarely changes and if it does, they have to give you a lot of notice. Variable interest means that your rate will constantly change depending on the prime rate. The prime rate is the lowest interest rate that is being given to preferred borrows. Many variable interest rate loans charge prime rate plus 3%.
What is the answer to the title of this entry? Interest comes from debt and debt is what causes bankruptcy. Debt is what causes stress in your life and debt is what makes you pay far more for something that you should. Strive to make APR something that has very little affect on your financial goals.