Does apr include closing costs?

Written by Anytime EstimateFebruary 7th, 20224 minute read

Interest rate graphicYou shopped for the “lowest” mortgage interest rate. You spoke to more loan officers than a politician running for office; but you finally found a great interest rate. The loan officer provided you with a loan estimate and explained all the fees associated with the purchase (or refinance). You’re glad all this mortgage stuff is done with. Now all you have to do is wait until the mortgage is processed and go to closing.

But then, after paging through your application papers, you spot a form called “FEDERAL TRUTH IN LENDING STATEMENT”.

On the form is a box titled ANNUAL PERCENTAGE RATE. WHAT!!! . . . that’s not what the loan officer promised. Infuriated, you’re about ready to suit up like Arnold Schwarzenegger in Commando and have a talk with that loan officer. You were probably thinking he was too smooth, too confident, too reassuring. Must be a thief.

But before you call the lender, read this . . .
The annual percentage rate is NOT the loan rate that you will pay on your mortgage loan. The Truth In Lending Disclosure is required under the Truth in Lending Act enacted June 29, 1968. This legislation was designed to prohibit larcenous lending practices.

Truth in lending form

This form is required by the federal government and is designed to help you compare mortgage lenders using a formula that “blends” the closing costs into the mortgage rate for illustrative purposes only. For example, let’s say Lender A does not have any closing costs whatsoever, the APR rate and the rate you pay on the mortgage, called the effective rate will be the same, but, if Lender B has a LOWER interest rate and high closing costs, the APR rate may be higher than Lender A.

Still confused? Here’s another example:

Let’s say you’re financing a glass of milk for one dollar, the effective interest rate and the APR rate will be the same, because nothing was added to the milk. But what if the restaurant took that glass of milk and added a couple of scoops of chocolate ice cream, and topped it off with a covering of whipped cream, and charged you two dollars? The APR would be higher because of the chocolate ice cream and whipped cream.

One more thing . . .

The APR calculation is different with adjustable-rate mortgages and the hybrid mortgages. Hybrid mortgages are loans that are fixed some period of time (i.e. 1,3,5,7 or 10 years) and then adjust annually.

What is the difference between a mortgage interest rate and the annual percentage interest rate?

There are many costs associated with taking out a mortgage. These include:
  • The interest rate
  • Points
  • Fees Other charges

The interest rate is the annual cost of borrowing money represented as a percentage rate.

It does not include any fees or other charges that you may be required to pay in connection with the loan.

An annual percentage rate (APR) is a wider measure of borrowing costs that is also stated as a percentage rate.

In general, the APR includes not just the interest rate, but also any points, mortgage broker fees, and other costs associated with the loan.

As a consequence, your APR will almost always be greater than your interest rate.
If you applied for a mortgage and got a Loan Estimate from one or more lenders, you can find the interest rate on page 1 under Loan Terms and the APR on page 3 under Comparisons.


The kind of mortgage you have and the conditions of your loan will determine whether or not you will be punished for paying off your mortgage early.

During the early years of a loan, certain loans include prepayment penalties. These fees may add up quickly for homeowners who wish to refinance their adjustable-rate mortgages before their rates rise, and some fixed-rate mortgages include prepayment penalties as well. Many states have regulations that restrict the amount or length of time that these penalties may be applied. The existence of a prepayment penalty on your loan must have been mentioned in your loan papers.

It's sometimes only revealed in an "Addendum to the Note"-check for anything with "Addendum" in the title of the Note. When evaluating loan alternatives, make sure you're aware of any variations in the conditions being offered:

When comparing the APRs of adjustable-rate mortgage loans, be cautious.

The APR for adjustable-rate mortgage loans does not represent the loan's maximum interest rate.

When comparing the APRs of fixed-rate loans to the APRs of adjustable-rate loans, or the APRs of various adjustable-rate loans, be cautious.

When comparing the APR of a closed-end loan that includes fees to the APR of a home equity line of credit that does not, be cautious.

When deciding which loan is best for your situation, don't only look at the APR.

SOURCE: Consumer Financial Protection Bureau (CFPB)

Frequently Asked Questions About APR

Q. Can the APR rate change?
A. The APR can change by as much as 1/8 of one percent prior to settlement without requiring disclosure by the lender.

Q. Can you negotiate APR on a mortgage?
A. It doesn't hurt to ask, but it's unlikely that the bank will budge. A number of variables affect the lender's interest rate.

Q. When am I notified of the APR rate?
A. The APR rate must be disclosed within three days after the borrower's application has been received.

Q. What does the mortgage APR include?
The APR calculation includes most closing costs, mortgage insurance, discount points, and loan origination fees.

Q. Why is APR higher than the mortgage interest rate?
A. The APR rate is higher than the simple interest rate because the APR rate also includes all the fees that the lender requires to process the loan.