Multiple Definitions of Effective APR
There are at least three ways of computing effective annual percentage rate:
- by compounding the interest rate for each year, without considering fees;
- origination fees are added to the balance due, and the total amount is treated as the basis for computing compound interest;
- the origination fees are amortized as a short-term loan. This loan is due in the first payment(s), and the unpaid balance is amortized as a second long-term loan. The extra first payment(s) is dedicated to primarily paying origination fees and interest charges on that portion.
For example, consider a $100 loan which must be repaid after one month, plus 5%, plus a $10 fee. If the fee is neglected, this loan has a (year-long) effective APR of approximately 80% . If the $10 fee were considered, the monthly interest increases by 10% ($10/$100), and the effective APR becomes approximately 435% (, as 535%-100%=435%). Hence there are at least two possible "effective APRs": 79% and 435%. Laws vary as to whether fees must be included in APR calculations.
Read more about this topic: Annual Percentage Rate
Famous quotes containing the words multiple, definitions and/or effective:
“Creativity seems to emerge from multiple experiences, coupled with a well-supported development of personal resources, including a sense of freedom to venture beyond the known.”
—Loris Malaguzzi (20th century)
“The loosening, for some people, of rigid role definitions for men and women has shown that dads can be great at calming babies—if they take the time and make the effort to learn how. It’s that time and effort that not only teaches the dad how to calm the babies, but also turns him into a parent, just as the time and effort the mother puts into the babies turns her into a parent.”
—Pamela Patrick Novotny (20th century)
“Knowledge about life is one thing; effective occupation of a place in life, with its dynamic currents passing through your being, is another.”
—William James (1842–1910)