One of the biggest financial tools you will have available to you is the ability to borrow money from a lender and pay it off over time. Capacity to borrow money is how you can buy a house, an apartment, a new car or even your education. Financial institutions generously allow you to borrow money because there is an excellent chance you will need time to pay it off, and they will acquire a payment in the form of interest, which is money they make off of you.
Of course, you don’t necessarily need a loan to buy something, but it will be harder to build your credit if you aren’t utilizing something. Interested in using your credit but not getting burned by the banks? Read on!
What is an APR?
According to US Bank, APR is the annual percentage rate of interest that will be charged during the lifetime of your loan, plus any additional fees that your lender is charging you. This is per year.
Your APR rate can also change if you aren’t careful or paying attention, especially when you use credit cards. For many credit cards, you can have an introductory low APR, or none, as long as it is paid off during the grace period.
After this is up, the APR will be charged to whatever balance you still owe. After your introductory period, or if you didn’t have one to begin with, the quoted APR would kick in.
You can be charged the annual percentage rate for the balance you have charged to the credit card itself as well as different amounts for other items. Cash advances on a credit card may have a different annual percentage rate than a balance you have charged by shopping at retailers or other purchases. You can also be hit with a penalty APR if you are late with your credit card payment or in noncompliance with any other policies set forth by your financial institution.
What determines APR rate?
Not everyone has the same APR when applying for a loan. You read that correctly. Just like different things affect your credit score, different things affect the APR rate that a lender is willing to give you for a loan or credit card. Things to consider before you apply for either:
- Your credit score. That three-digit number does more than you think. Along with keeping track of every single time you’ve financed something, borrowed money and lived somewhere, this score also tells someone if you are a responsible borrower and if they should loan to you. If this number is high, preferably in the mid 600s or higher, you should have no problem borrowing money and at a lower rate than someone else who does not have any credit to begin with or a low score due to utilization. If you have already maxed out other lenders, it does not make sense for them to lend to you if they are not going to get it back.
- Your credit history. Along with your credit score, your credit history is going to be on your credit report when lenders pull it to see if you’re a candidate to lend money. Usually, the longer you have kept your accounts open, the more they are willing to see if you are a responsible borrower and to consider giving you money.
- If you have opened other loans and paid them on time. A future lender may also find if you have opened other loans and paid them on time. This could be your saving grace if you have a lot of medical debt but need an auto loan and you have a history of paying one off.
How does ARP affect me?
The amount of your annual percentage rate can change by hitting you where it hurts the most – your wallet. Let’s look what APR can do.
First, how do you find your APR? In your account agreement, it should say how much your financial institution is charging you in the form of interest because they have lent you money. If your rate for your credit card is 21%, it will be divided over the course of 12 months. So, your interest rate per month is 21/ 12= 1.75. If your balance for the month is $400, you are paying 400 x .0175= $7. Your minimum payment always goes towards interest first and then your principal, which is why your balance takes longer to go down if you are commonly paying minimum payments.
However, if you have an APR of 5% on a credit card, your interest rate is 5/ 12= .4166. Wow, that’s not even a percent a month. So the balance of $400 would only be 400 x .004166= 1.66. So the interest for the month would $1.66. Not bad if you needed to borrow $400. Would you rather be paying $7 or $1.66? And this is not including your annual fees if your financial institution asks for them.
Along with credit cards, your APR can affect you with different loans you take out over the course of your lifetime. Interest adds up, and you can be charged additional thousands of dollars just because you did not qualify for a low APR rate. That money could be better suited for other financial goals and retirement.
What can I do to get a low APR?
All is not lost if you have a higher APR rate at the moment. There are different things you can do to help lower it and make sure you are not being targeted by predatory lending practices that affect people when financing items over the course of their lifetime.
- Maintain a good credit score. Since this is one of your financial report cards in life, if not your main one, it makes sense to keep this as high as you possibly can. There are ways to build your credit, and if you have damaged it, rebuild it once again.
- Do not declare bankruptcy. There are a lot of situations that may have you considering bankruptcy, and I completely understand, especially when it comes to medical bills. Chronic illnesses, car accidents and surgeries are not cheap. But I highly advise against this. Bankruptcy should be a last ditch effort to help your credit situation. A bankruptcy will follow you for several years and may make it extremely hard for you to finance anything, let alone at a low rate. Nothing makes a financial institution run away like a bankruptcy. And remember, bankruptcy does not forgive student loans. These are with you for life.
- Pay everything on time. Pay any loan or amount borrowed on time, and do not miss payments. If you need to pay late for a reason, such as medical or pay cycle, call your borrower in advance to set up arrangements. These can be done on a case by case basis but should not be abused.
- Pay additional to the principal. Any extra amount you can use to pay your debt faster, do so. Some argue against this, especially with mortgages, but car loans and credit cards, yes. Depreciating assets do you no good, especially if you go into debt for them.
- Max out your earning potential. Lenders want to know how much you make and how long you’ve been at your job. The more money you earn, the more you can borrow and pay back. The longer you’ve been at your place of employment means that you are responsible and not all over the place. Sure, we live in a generation where people encourage job hopping, but employers and lending institutions still see that as someone who might not be together or responsible.