Understanding the difference between APR (Annual Percentage Rate) and APY (Annual Percentage Yield) is crucial for making informed financial decisions. While both sound similar and both have a relation to interest rates, they still have a difference.
APY is a rate of return that you expect while investing or saving your money. On the flip side, APR is a yearly rate that you have to pay on the loan amount. While APY represents how much you can earn, APR represents the cost of borrowing money.
Knowing the distinctions between APR and APY can empower you to make wiser financial decisions.
What is APY?
APY stands for annual percentage yield. It also refers to EAR or effective annual interest rate. APY applies to the money you put in savings accounts, Certificates of deposits, or money market accounts. It reflects the amount of money you could earn as interest on your funds, the higher APY means the higher returns on your savings. The other factor that you should consider is the frequency of compounding. The more times your funds are compounded, the more benefit you can get with the power of compounding as you will earn more compound interest. Compound interest means that you will earn interest on both, the principal amount and the accumulated interest on the principal amount.
To learn more about PAY, click here.
What is a Good APY Rate?
A good APY rate can vary depending on the type of account or investment. Generally, the higher rate is considered to be a good APY rate as then you can earn more interest on your savings. Thus, it's essential to compare rates across different financial products to find the best option based on your financial goals and risk tolerance.
What is APR?
APR stands for Annual Percentage Rate. The rate represents the cost of borrowing money from a bank or a financial institution in the form of a loan or credit card. APR measures the amount of interest that you will be charged every year including other fees when you borrow money. APR confines the interest rate along with additional expenses such as lender fees, closing costs, and insurance. If there are no lender fees, then APR and interest rates may be the same, like in the case of credit cards.
What is a Good APR Rate?
If the APR is lower, then it is a good APR rate as you have to pay less as compared to a loan with a higher APR rate. The higher the APR, the more amount you have to pay as interest.
Difference Between APR and APY
- APR measures the interest charged while borrowing money and it also includes lender fees, closing fees, etc. On the other side, APY measures the total amount of interest earned over the year, including compound interest.
- APR is used for loans and credit cards showing the cost of borrowing money while APY is used for deposit accounts indicating the rate of return on investments.
- APR doesn’t account for compound interest and APY does.
- APR can be the same as the interest rate if there are no additional fees and APY is generally higher than the interest rate due to compounding effects.
APY vs APR: Which is Better?
APR and APY are both equally important to consider. We can't compare them as they both represent different things. APY will be more useful when you are looking to save money on deposit accounts. You need to calculate APY to know how much interest you can earn on your funds. On the other hand, APR can be more useful when you want to know how much it will cost you to borrow money or apply for a credit card.
Bottom line:
While APY indicates the amount of interest you will earn while saving or investing your money, APR represents how much cost is levied when you borrow money from any financial institution. The higher APY will make you more money and the lower APR will make you pay less while borrowing.
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