Annual percentage yield (APY) and annual percentage rate (APR) are the terms used to indicate the interest earned or paid on a particular amount. APR is the rate charged for borrowing funds while APY is the effective rate of return earned, considering compounding interest. While APR and APY may sound similar, they are quite different. It is crucial to know the difference between the two whether you are paying off credit card debt, investing in bonds, or borrowing funds. It can help you manage your money more wisely.
Let us discuss what each of these terms means, and the distinction between them.
What is APR?
APR stands for annual percentage rate. It describes the yearly cost that you will have to pay for borrowing money. The APR includes not only the interest on the loan but also other charges that come with borrowing the money, such as processing fees, and annual fees. The APR is a better way to figure out how much it will cost to borrow money than just looking at the interest rate because it considers all the fees that come with the loan. The lower the APR on your loan, the less you will have to pay the lender.
What is a good APR rate?
A good APR for a personal loan is between 10 to 12%. Generally, APRs on loans can have a wide range, but the average rate depends on the tenure of the loan, amount, borrower’s credit score, income, and outstanding debts. As, the average APR can change based on the type of loan, the lender, and the creditworthiness of the borrower.
What is APY?
APY stands for annual percentage yield. It can also be called an effective annual rate (EAR) or the rate over a year. APY usually applies to money that you put in a deposit account, like a savings account, money market account, or certificate of deposit (CD). The annual percentage yield (APY) tells you how much interest your investment could earn in a year.
In addition to the interest rate, the APY looks at how often interest is compounded and how many times that happens in a year. Compound interest means that you do not just get interest on the money you put in. You also get more interest on the interest that you already have. A higher APY means that you will get a higher rate of return on your investment.
Additional read: Different types of interest rates
What is a good APY rate?
A good APY value depends on the type of investment. It varies significantly between a savings account, a current account, bonds, and other investment products. It is important to know the average returns of the investment product you choose, before considering any APY rate as ideal.
APR is important for people who want to compare how different each loan option costs them, while APY is important for people who want to compare how much they could earn from different investments. There is no option such as an APR vs APY calculator, but both have a calculator of their own.
APR or APY examples are important to consider when choosing your next credit or deposit account. Knowing what they are and how they affect your finances can go a long way towards helping you make smart choices.
What is the difference between APR and APY?
The main difference is that the APR is the annualised interest rate that borrowers pay on credit instruments such as loans and credit cards, while APY is the annualised interest rate that depositors earn on their savings accounts, CDs, and others.
APR looks at the interest rate and fees or charges that come with borrowing money, while APY looks at the compound interest rate and how interest is added to your account over a year.
APR rate vs. APY rate - Which is better?
Understanding the distinction between APR (Annual Percentage Rate) and APY (Annual Percentage Yield) is crucial for making informed financial decisions. APR reflects the interest cost of borrowing, without considering compounding. APY, on the other hand, factors in compounding for savings or investments. If you're borrowing, a lower APR is advantageous as it implies lower borrowing costs. Conversely, for savings or investments, a higher APY is more favorable as it indicates greater potential for compound growth. The choice between APR and APY depends on your financial goal: minimise costs for borrowing with a lower APR or maximise returns with a higher APY for saving or investing.