Trying to understand what APR is can be difficult enough when it’s being properly used and applied to long term loans such as car leasing agreements and mortgages – so using APR to demonstrate interest rates and fees associated with short term loans such as payday loans can just be mind boggling! A payday loan is a short-term loan that is paid back over a period of a couple weeks or a month - so how on Earth is an annual (yearly) tool supposed to help customers better understand costs involved in a loan that is 1/12 of a year?
APR (Annual Percentage Rate) is a representation of the cost of interest and other fees calculated over a period of a year. In 1974, the UK Consumer Credit Act stated that APR for any kind of regulated loan must be disclosed before the credit application is finalised. APR may not include all loan costs like late or missed payment penalty fines or any fees related to the recovery of failed payments
The below factors are what APR is comprised of:
- Yearly interest rate
- Number and amount of each payment
- Any kind of additional fees that are included in the costs of the loan
- Loan agreement period (the length of the loan)
The below illustration, while a bit of an exaggeration perhaps, just goes to show that APR is really not a useful representation of costs associated with a short term loan in the same way that seeing the yearly rate of your dinner meal or cab fare is not helpful either. Of course it’s vitally important for customers interested in taking out a loan (payday loan or otherwise) to be fully informed and completely aware of all costs involved, but APR may not necessarily be the best way of doing that.
We hope that after reading this, you’ll have a better understanding of what APR is and how it’s used.
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