The terms annual percentage yield (APY) and annual percentage rate (APR) are both used to describe interest. However, APY refers to the interest earned on money held in a savings account, whereas APR refers to the cost of borrowing money.
It’s easy to see how the phrases APR and APY could be confused. Interest in financial and investment products is calculated using both. Once they’re added to your account balances, they have a big impact on how much you earn or have to pay.
Financial companies frequently use APR to promote their credit products because it appears that customers pay less in the long term for accounts such as mortgages, loans, and credit cards.
The annual percentage rate (APR) is the cost of borrowing or earning money. The yearly compound of interest within one given year is not included in the APR, which covers fees and other transaction charges. This is a simple interest rate derived by multiply the monthly rate of interest by the number of months in a year to which the monthly rate is applied. This does not account for the number of times the rate is applied to the balance.
The APR is determined as follows:
APR = Periodic Rate x Number of Periods in a Year
For example: You take out a 30-day loan for $100. There is a $1 fee on top of the $2 interest. Your APR would be computed as follows if you paid back the total amount within 30 days:
[((3/100)/30) x365] x100
=[(0.03/30) x 365] x 100
= [0.001 x 365] x 100
The annual percentage yield (APY), also referred as earned annual interest (EAR), takes compounding interest into account, whereas the annual interest rate (APR) does not. Simply said, compounding applies to earning or paying the interest on the prior interest that is added to the loan principal. Compound interest rates are used to compute interest on most loans and investments. All investors want to get the most out of compounding on their investments while minimizing it on their loans. Because compounding interest is calculated by multiplying the regular interest rate by the number of days among payments, it differs from simple interest.
Here’s how APY is calculated:
APY = (1 + Periodic Rate)Number of periods – 1
For example: if you have $100 deposited for a year at the interest compounded monthly of 5%, your annual percentage yield (APY) would be:
One of the most common queries hard money lenders get is about the difference between APY and APR. The APY is analogous to the credit industry’s APR. The annual percentage rate (APR) shows how much interest and fees a borrower will pay over the course of a year. Both APY and APR are standardized annualized percentage rate interest rate indicators. They do, however, differ in important ways. One difference is that APY considers compound interest, but APR does not. Moreover, the APY equation only considers compound periods, not account fees.
What is the difference between APR & APY
The phrases annual percentage rate (APR) and annual percentage yield (APY) are both crucial to understand when it comes to interest rates on a hard money loan since one is not superior to the other because they are employed in quite different ways. The APR represents interest owing, while the APY represents interest earned. Both claim to be accurate representations of money owing or received, but as previously stated, both leave out some expenses.
While the purpose of APR is to let the borrowing costs appear as low as feasible, the objective of APY is to get the returns on your investments to appear as high as possible for investors. The basic purpose of both is to analyze the right financial product, whether it’s a credit card, loan, or savings account, to appear as appealing to the potential client as possible.
Even if these figures aren’t perfect, they are more accurate than the standard interest rate in determining overall interest, so it’s worth your time to study the tiny print and understand more about these figures while shopping for financial goods.
Those who finance or invest funds want to earn the highest possible rate of interest.
Let’s pretend you’re looking for a bank to create a savings account with. You would want one that will offer a high return on your investment. The bank will quote the APY, which comprises compounding and is thus a more appealing amount, rather than the APR, which does not include compounding.
Simply look at how often that compounding happens and match that to other banks’ APY quotations with compounding at an equal rate. It can have a major impact on the amount of interest you earn on your money.
A hard money investor lend money for short period of time like for a couple of months to year, and they want high return on investment. APR and APY are two methods for calculating interest on loans, investments, and credit. APR is the simple interest rate over a year, whereas APY represents the rate with interest on interest or compounding (more on this later). So, for short time a hard money lender should use APR to calculate interest rate for
How to Make Informed APR and APY Decisions
When it comes to choosing the correct credit or deposit account, both APR and APY/EAR might be helpful. However, there are a few points to remember:
- Which APR is right for you? Different APRs apply to different sorts of transactions on some credit cards. Credit card companies, for example, may impose one APR for purchases and another for cash advances or debt transfers.
- What is the frequency of compounding interest? Daily, weekly, monthly, quarterly, or annual compounding is possible. Frequent compounding may increase the value of your investment accounts while increasing the expense of your credit accounts.
- Will the interest rate fluctuate? If your rate is set, it is unlikely to alter. It’s more likely to alter if it’s variable. If you have an initial APR, make sure you understand how long it will continue and what your rate will be when it expires. Keep in mind that the annual percentage yield (APY) on deposit accounts is usually variable and fluctuates with the market.
- Have you read the small print? Make that you are aware of all of the terms and fees. The APRs on all credit cards do not include the same costs. Some may not charge any fees. Additionally, bank accounts may have fees that are not included in the APY.
Both APR and APY are crucial concepts to grasp when it comes to personal finance management. The larger the difference between APR and APY, the more often interest compounds. Be aware of the various rates quoted when shopping for a loan, signed up for a credit card, or looking for the best interest on a savings account.
Both APR & APY are crucial elements to comprehend while seeking for a loan. For hard money loans at the best rates compared to the market, get in touch with us.