When you take out a personal loan, the cost is shown using an Annual Percentage Rate (APR).
It’s the same system used to show the cost of credit cards and mortgages.
But what is an APR and how does it help you choose the cheapest way to borrow? Let’s find out…
What is a loan APR?
When you take out a loan of say £5,000 or £10,000, you agree to repay this amount, plus interest, in fixed monthly repayments that last for a set time, such as five years.
The APR on the loan is the rate of interest you pay, plus any other fees charged.
In other words, it represents the total cost of the loan.
Example (using our free loan calculator):
If you borrow £5,000 over five years at an APR of 8%, you’ll need to repay £6,042.92 to clear the debt. The total cost of the loan will therefore be £1,042.92.
Loans regulator the Financial Conduct Authority (FCA) says:
"APR stands for the Annual Percentage Rate of charge. You can use it to compare different credit and loan offers. The APR takes into account not just the interest on the loan but also other charges you have to pay, for example, any arrangement fee."
What is a representative APR?
Industry rules force lenders to show representative examples when advertising loans and other types of credit.
They do this by including a representative APR they must then offer to at least 51% of the applicants they accept for the loan.
If you fall into the 49% of successful applicants who fail to qualify for the representative APR, you will be offered the chance to borrow, but at a higher rate.
What happens if I don’t qualify for the representative APR?
If you're not offered the advertised rate, you'll receive a personal APR set for you by the lender.
Based on your personal circumstances and credit score, it will almost certainly be higher than the representative APR.
It is up to you whether you accept the loan on these terms.
A loan is advertised at a representative APR of 7.5%. However, when you are offered the loan, the APR is 9.5%. This is known in the industry as your personal APR.
What is the difference between an APR and an interest rate?
The interest rate on a loan is the rate at which interest is charged on the amount you borrow.
The loan APR is the rate of interest, plus any other fees charged.
This makes it a truer representation of the total cost of the loan.
What is a good APR?
Generally speaking, you will be offered lower APRs on larger loans.
You might, for example, be able to pay just 3% APR on a £10,000 loan, but have to pay at least 9% APR to borrow just £1,000.
However, the APR you pay on a personal loan will depend largely on your personal circumstances.
Factors lenders consider include how much you earn, how good your credit score is, and whether you own your own home.
Is an APR charged monthly or yearly?
The “A” in APR stands for “Annual” so all APRs are calculated yearly.
That is not always the case with interest rates, however.
Payday lenders, for example, sometimes quote monthly interest rates to make their offers seem better value for money.
Is a lower APR better?
Yes. The lower the APR on a loan, the less you pay in interest and charges. But the cheapest loans are only available to those with excellent credit scores.
And it’s not a good idea to apply for deals you are not going to get as each rejection further damages your credit file.
That’s why it’s a good idea to use our Eligibility Checker to tell you which lenders are likely to accept you before you apply. It won’t harm your credit score.
All credit cards and loans are subject to status and terms and conditions. Over 18s, UK residents only. Terms and conditions apply. See MoneySuperMarket.com for further information.
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