What is the APR?
Annual Percentage Rate (APR) is the cost of credit as a yearly rate. The APR is a disclosure mandated by the Truth in Lending Act of 1968. It is designed to accurately disclose the true cost of credit and provide a standard basis of comparison for the costs of credit.
Here’s an example:
When you decide between buying a quart of milk for $1.79 or a half-gallon for $3.50, you need to know how to convert between quarts and gallons in order to do the math. Even if the half-gallon turns out to be a better bargain, you might decide to buy the quart because you only have $2.
Making decisions about the cost of credit poses even more complicated comparative hurdles. A number of factors—such as term, type of interest rate (see below), etc.—can affect the cost of credit and make it hard to compare multiple loans. The APR makes comparison shopping easier. It’s a common unit of measurement for loans.
Of course, just like with the milk example above, there are times when you might still choose to take on a more expensive loan if the immediate monthly payments are lower.
Why is the APR higher than the interest rate?
The APR figures in not just your interest rate, but also some fees associated with your loan over its lifetime. At Prosper, this means the closing fee charged when you first borrow the money. This closing fee is paid out of the loan proceeds when the loan originates. Because of this, the amount financed is always less than the amount requested. However, you still need to pay back the full amount.
Here’s an example:
A Prosper borrower with a B rating receives $2,425 in cash for a requested $2,500 loan. The difference of $75 is the closing fee that Prosper collects on the loan. However, the borrower is still responsible for paying back the full $2,500 over the term of the loan.