If you’ve ever used a financial product, such as a loan, you’ll have come across three little letters: APR. But what exactly is APR? How does it work? Why does it matter? And how does it affect the financial products you use? We’ve got all the answers.

What is APR?

APR stands for Annual Percentage Rate. Presented as a percentage, APR is a calculation of the full amount you will pay for a loan over the course of one year. The calculation includes any fees you may need to pay, plus the interest rate a lender applies to your particular loan. Many loans last longer than one year. In these cases the total fees and the interest of the loan are added up and averaged out to give an average yearly cost.

In a nutshell, APR is a percentage which tells consumers how much it will cost to borrow money (on top of the actual loaned amount itself). The higher the APR, the more you will pay for a loan overall.

Why does APR matter?

APR is a very prominent figure within financial services because it is used widely by lenders. Every lender calculates it in the same way. As it is a standard measurement, it is considered to be a useful figure which can help consumers compare and contrast different financial products. All lenders have a legal obligation to give an accurate APR before their customers take on a loan.

What are representative APR and typical APR?

Representative and typical APR are two different ways of working out and presenting APR.

While every lender uses the same calculation to work out APR, there are a few variables which may make APR seem higher or lower on paper. This is because different consumers will qualify for different rates and may incur different fees and charges.

For example: while one borrower may have a long history with a lender and be trusted with a lower APR, another may be a new customer with a poor credit history which inflates the APR available to them. There are lots of factors which may affect the actual APR you pay as an individual. The most common are:

  • Your credit history
  • Your history with the lender
  • How much you want to borrow
  • How long you want to borrow for

Representative APR and typical APR are two different calculations lenders use to account for and express these differences.

Representative APR

When lenders use the expression “representative APR” they are referring to a rate which 51% or more of applicants for their product will be offered. This rate includes all interest, fees and compulsory extras including things like obligatory insurance policies.

Typical APR

When lenders advertise a “typical APR” they are referring to a rate which, by law, two thirds or more of applicants for their product will be offered. Again, the rate includes all interest, fees and additional charges.

Understanding the difference between representative and typical APR will help to give you some idea of the actual rate you will be offered. You are more likely to receive a rate closer to typical APR than representative APR, for example. However, because in many cases applicants do not meet the criteria for their loan after they have been offered a product, fewer than two thirds or 51% respectively may actually ultimately qualify for the APR advertised.

There are a number of other types of APR which you may come across as you explore financial products. Here is a quick guide…

Types of APR

Fixed APR

When you use a credit card, this is the interest rate you can expect to pay which will not change unless you fail to meet repayments.

Default APR & Penalty APR

If you break a credit card agreement, you may be subject to a default or penalty APR on any new transactions you make. This APR will typically be higher than your usual rate. Missed repayments and exceeding credit card limits are common causes of this.

Introductory APR

In some instances, an introductory APR may be offered to attract new customers. This APR will be lower than the usual rate and must last for a minimum of six months by law. After this period, the APR will return to its usual, higher level.

Variable APR

When national rates and economic factors change, so too can APRs. These are known as variable APRs which are determined by what’s going on in the world.

Delayed APR

This is an APR which will be incurred later. For example, a lender may advertise a product with “no interest until June”. The delayed APR is the APR you can expect to pay once the rate kicks in.

Tiered APR

Different levels of borrowing may be subject to different APRs. This is known as tiered APR and is usually seen with credit cards where the first £1-£500 has an APR of 16% while the next £500-£1500 has an APR of 17%.  

What does APR mean for payday loans?

If you’re thinking about using a short-term financial product like a payday loan, you should have taken some time to investigate the APR of different products. In this case, you will already know that APRs on payday loans are usually high compared to other financial products.

While short-term loans can be a more expensive way to borrow, they are also a very accessible and fast way to access emergency finance and may not be quite as costly as their APRs would suggest.

This is because APR is used most often to calculate the cost of longer-term loans. Short-term loans rarely extend beyond a year – in some cases they can last as little as a week – which means APR (which is an annual measurement) is not an accurate way to calculate cost.

A better way to appraise and compare the affordability of short-term loans is to work out the interest you will be charged per day, or per £100. Remember to factor in admin fees and charges when you work this interest rate out.

Where can I learn more about APR?

Would you like more information about APR? Perhaps you have a money worry you’d like to discuss with an expert? There are lots of excellent resources available which can help. Here are a few of the best:

Financial Help & Advice

Financial help – https://www.financial-ombudsman.org.uk

Free advice on money – https://www.gain4u.org.uk

Free debt advice – https://www.payplan.com

Loan & APR Forums