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The
Cost of a Loan
Two things determine what borrowing will cost
you: the APR and the length of the loan.
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cheapest loan isn't the one with the lowest payments, or even the one
with the lowest interest rate. Instead you have to look at the total cost
of borrowing, which depends on the interest rate plus fees, and the term,
or length of time it takes you to repay.
WHAT
YOU LEARN FROM ADS Lenders are required to tell you what a loan will
actually cost per year, expressed as an annual percentage rate (APR).
Some lenders charge lower interest but add high fees. Others do the reverse.
The APR allows you to compare them on equal terms. It combines the fees
with a year of interest charges to give you the true annual interest rate.
For example, suppose you take a $10,000 loan at 10% interest. You also
pay an origination fee of $350, leaving you with $9,650 as the actual
borrowed amount. Since you are getting a smaller loan, but repaying the
full $10,000 with interest, the cost is more than 10%. The APR, or actual
percentage rate, is closer to 10.35%.
In contrast, the
periodic interest rate,
also called the nominal rate,
is the interest rate the
lender charges on the amount you borrow. If the lender also charges fees,
the periodic rate will be lower than the APR.
WHAT
YOU LEARN WHEN APPLYING Every lender is required to provide a total cost disclosure,
called a Truth-in-Lending disclosure, before a loan is made. This
is the only place where you can see in dollars and cents what the loan
will actually cost you. |
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The
disclosure will provide the:
Finance charge, or the dollar
cost of borrowing. For most loans, it includes all the interest, fees,
service charges, points, credit-related insurance premiums, and any other
charges.
Amount financed, or the amount you are borrowing.
Total of payments, or what you must repay the lender. Add
your cost, or finance charge, to the amount you borrow, to find the total
amount.
Annual percentage rate, or the cost of borrowing as a yearly rate.
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THE COST OF TAKING LONGER TO REPAY
The term of
your loan is crucial when determining cost. Shorter terms mean squeezing
larger amounts into fewer payments. But they also mean paying interest
for fewer years, which saves you money.
Consider, for example, the interest for three different terms on a
$15,000 loan at 6% APR.
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 THE
FEES ARE THE THING Be careful to ask about all fees — they add up
very quickly and can substantially increase the cost of your loan. Each
type of loan has a different set of fees. Here are some you might encounter.
Application fee covers processing expenses.
Attorney fees pay for the lender's attorney. Fees for your own
attorney are extra.
Credit search fee covers researching your credit history.
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© 2006 by Lightbulb Press, Inc.
All Rights Reserved.
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