Understanding APR Financing for Car Loans

Written by Russell    Friday, November 20 2009

APR (Annual Percentage Rate) financing, is a term that is often added onto the end of advertisements by the dealer or car company. However, just because the term is in the advertisement doesn’t mean that everybody knows what APR is. Obviously the lower the rate is the better but do you really know what you’re paying for when you get a low APR rate?

APR differs from a simple interest rate. A standard interest rate only refers to what must be paid to the lender in addition to the principal (the amount of the loan). However, there are numerous hidden costs that are not represented by the interest rate. Those hidden costs include things like closing costs, financing fees and insurance requirements. Lucky for us the APR simplifies the interest rate plus the hidden costs into one rate.

While it may seem that lenders are doing consumers a favor by grouping these costs together into an APR figure, they have no choice as it is required by federal law so consumers have a standard rate for comparison. Congress enacted legislation requiring APR through the Truth-in-Lending Act in order to simplify the car buying experience for consumers.

Now before you get too excited about seeing an advertisement with a great APR rate, it is important to understand that many advertised rates are subject to a credit check. The dealers use these credit checks to weed out all but the highest rated customers.

It is important to understand the use of APR through the lenders and dealerships eyes. For them, money repaid in a shorter period carries far less risk. Since that situation carries less risk, there will be a lower interest rate which will attract more buyers.