Understanding APRs When Sourcing Motor Finance
When you apply for car finance, it’s important to consider the APR being charged as this will affect not only how much you pay in total, but also your monthly repayment figure. We’ve provided a short guide to make understanding APR that little bit easier.
An APR is the Annual Percentage Rate. It is the cost you pay each year to borrow money, including fees, expressed as a percentage. When applying for car finance, the APR is an important factor to consider. It allows you to understand the full cost of financing a car by factoring in both the interest rate and fees being charged by the lender. The higher the APR, the more you’ll pay over the lifetime of the loan.
Lenders are required to disclose the APR to you before you sign the motor finance agreement, ensuring transparency in the borrowing process. This enables you to compare loan options to make an informed decision.
Some lenders will calculate the cost of borrowing money using a variable APR. The rate that you end up securing will consider the amount that you wish to borrow and the term that you are borrowing the money over. The APR offer is fixed on the figures of the quotation provided. If a change is made, for example, to the principal loan, or the term (number of months you borrow over), the quote will be recalculated, and the APR may increase or decrease. Once the quotation has been accepted and a finance agreement has been signed, the APR rate stays fixed throughout the life of the agreement.
Some lenders do offer fixed APR rates based on your credit score. This means that the rate will stay the same even if you change details of the amount that you wish to borrow.
To better understand the impact of the APR, let's consider different loan options for a vehicle costing £15,000 over two different loan terms:
Here are examples of the loan repayments and are for illustration purposes only. These examples do include any charges or fees that are usually applied by the lender:
Loan Option 1
Loan Amount: £15,000
Loan Term: 36 months
APR: 5%
Loan Repayment = (£15,000 + (£15,000 x 0.005 x 36)
Loan Repayment = (£15,000 loan + £2,700 interest) = £17,700 over 36 months ≈ £491.67 per month
Loan Option 2:
Loan Amount: £15,000 Loan
Term: 48 months
APR: 7%
Loan Repayment = (£15,000 + (£15,000 x 0.007 x 48)
Loan Repayment = (15,000 + £5,040) / = £20,040 over 48 months ≈ £417.50 per month
In this comparison, opting for Loan Option 1 with a 36-month term and 5% APR would result in higher monthly repayments (£491.67) compared to Loan Option 2 with a 48-month term and 7% APR (£417.50).
However, the overall cost of the loan in Loan Option 1 is £17,700 compared with £20,040 in Loan Option 2.
A shorter loan term may result in higher monthly repayments but can lead to lower total interest paid in the long run.
What's the difference between a personal APR and a representative APR?
A Representative APR is the advertised rate given to at least 51% of successful loan applicants.
A Personal APR is the rate that you are given when you take out a loan or credit card. The rate charged will depend on your specific eligibility and financial situation. Your lender will usually decide on the rate you’re offered, and it’s based on how closely your credit and financial information match the lender’s criteria.
Factors That Can Influence the APR You Are Offered for Car Finance
Credit History
Your credit history plays a significant role in determining the APR. Lenders assess your creditworthiness based on factors such as your credit score, payment history and outstanding debts. Those with a higher credit score usually qualify for more favourable APRs. If you have a low credit score you may be charged a higher APR, given a smaller credit limit, or your application could be refused.
Loan Term
The length of the loan term can impact the APR. Generally, longer-term car loans may have lower APRs compared to shorter-term loans, but can end up costing more overall.
Loan Amount
The amount you borrow for your car purchase can influence the APR. In some cases, lenders may offer lower APRs for higher loan amounts.
Market Conditions
Economic factors and market conditions can impact APRs. Fluctuations in interest rates and lending practices can cause APRs to vary over time.
What’s the Difference Between Interest Rate and APR?
The difference between the interest rate and the APR is that the interest rate is the cost of borrowing the principal amount (the amount needed to buy a car) and the APR is the cost of borrowing the principal amount plus any additional compulsory fees imposed by the finance company.
Using the APR rather than the interest rate makes it easier to compare loans and credit cards as you have a better idea of how much you’ll have to repay overall.
Understanding APR is vital for several reasons:
- Comparing Loan Offers: APR allows you to compare different car finance options effectively. By reviewing the APR, you can determine which loan offers the most favourable terms and represents the best value for your financial circumstances.
- Cost Assessment: APR provides transparency in assessing the total cost of borrowing. It helps you determine the overall amount you will repay, including interest and fees, over the course of the loan.
- Saving Money: Opting for a car finance option with a lower APR can potentially save you a significant amount of money over the loan term. Even a slight difference in APR can result in savings, making it worth comparing offers before deciding.
By carefully considering the APR, you can make an informed decision about car finance and make sure that you select an option that suits your budget and financial needs. It helps you to understand the total amount you'll repay over the entire loan term and ensures you're aware of the borrowing costs associated with your car purchase.
You may also find our recent blog A Guide to Car Finance: All You Need to Know useful when considering the best type of car finance or loan when buying your car.
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