What’s the Difference Between APR and APY?

in First Person: Our Blog, Personal Finance

APR and APY mean the same thing, right? Nope. They’re both related to interest rates, but the difference between the two is more than just a single letter. And it’s important to understand the two terms so you can be more informed before making financial decisions.

By definition, APR is Annual Percentage Rate and APY is Annual Percentage Yield. Try this trick to help you keep the two straight: you pay a rate on a loan and you earn a yield on an investment. Now let’s dig a little deeper into the differences between APR and APY.

APR (Annual Percentage Rate)

APR is a measure of the cost of credit expressed as a yearly rate. It is the finance charge on a loan over a one-year period expressed as a percentage. This is used to calculate and compare the actual finance costs of your loan. To calculate APR, multiply the periodic interest rate by the number of payment periods in a year. For example, if you are charged a yearly interest rate of 12% than you would be charged 1% monthly as there are 12 months in a year.

APY (Annual Percentage Yield)

APY is most commonly applied to deposit accounts, and is the total amount of interest earned on an account based on the interest rate and the number of times interest is compounded in a 365-day period. (Compound interest is interest that accrues on previous interest and it typically compounds quarterly, monthly, weekly or daily.) The calculation for APY is a little more complicated: APY = (1+periodic interest rate as a decimal)number of periods in a year – 1. For example, taking 1% a month and compounding monthly, you would get the following (1+.01)12-1 = 0.1268 or 12.68%.

Whether you are looking for a loan or trying to find the savings account with the best rate of return, do your homework to be sure you understand the rates being quoted. You could save a decent amount of money on a loan or earn more on your savings account.

As always, if you have questions about interest rates, yields or calculations, contact a Relationship Banker at bank@firstib.com or 1-888-873-3424. We’re here to help!