If you want to take out an installment loan, you should carefully compare the different offers beforehand. An important reference point here is not only the debit interest rate, but the effective interest rate. It is the most important basis for making credit offers comparable. The former indicates the amount of interest, but does not clarify how expensive the loan actually is. APR is much more meaningful because it describes the total annual cost of the loan, including all fees.
APR – debit interest rate (nominal interest rate) plus additional charges
If you want to secure the best possible credit terms, interest rates are the most important comparison criteria. The terms normal interest rate and annual percentage rate quickly emerge. The effective interest rate is the best for comparing loans, because it includes all the costs of the loan. This is the annual interest rate due on the nominal amount of the loan, thus indicating the total cost. An APR makes it much easier to compare different loan offers. When the specification of the effective interest rate was not yet required by law, banks could "trick" with their loans.
Loans were offered with favorable interest rates, but with various additional costs added to them. At this time, a seemingly favorable loan offer turned out to be a bad one due to high processing and closing fees or. expensive loan. The inclusion of additional costs in the effective interest rate is much more consumer-friendly. In the past, however, banks could advertise with the nominal interest rate alone, whereas nowadays customers are entitled to have the effective interest rate stated.
Calculate effective interest rate – effective interest rate must be specified
The Consumer Credit Act stipulates that banks must inform consumers about all costs before the conclusion of the credit agreement. The effective interest rate for loans is calculated from the nominal interest rate, taking into account all factors associated with the loan. The effective interest rate, which is stated as a percentage, makes it possible to best compare different loans with the same credit period and the identical fixed-interest period. Effective annual interest rate plays the most important role when it comes to comparing the total costs of the different loans. You can immediately see from it what annual costs you will incur.
Since the effective interest rate includes not only the additional costs, but also the debit interest rate, it is always higher. Caution: While banks have long charged processing fees for their loans and added them to the debit and effective interest rate, this is no longer possible today. According to the German Federal Court of Justice, processing fees have been inadmissible for consumer loans since 2014, because the expenses for a consultation or credit check are already considered to be covered by the interest rate.
Annual percentage rate of charge – what costs may not be covered?
The effective interest rate does not cover all costs. If, for example, residual debt insurance is taken out voluntarily, it does not have to be taken into account in the calculation. The situation is different if the residual debt insurance is binding for obtaining the loan. Then it was usually taken into account by the bank in the calculation. This policy will pay off the balance of the loan if the borrower dies or becomes unable to work. Since this insurance can significantly increase the price of a loan, it should definitely be taken into account when calculating its cost. Costs for unscheduled repayments, installment breaks or early repayment of the loan are also not included in the effective interest rate.
Effective annual interest rate – what factors determine it?
The exact amount of the effective interest rate varies due to various aspects that are used by the bank to calculate the annual interest rate. In general, it is the result of the nominal interest rate, the fixed interest rate period, the repayment costs and the disbursement rate. An APR is also influenced by the following factors:
- Key interest rate, which is set by the ECB (European Central Bank) and serves as a guide for interest rates. It indicates the interest rates at which banks can borrow money. The lower the prime rate is, the lower the borrowing rate and APR will be.
- Credit term:The longer the term, the higher the effective interest rate, as the risk of default increases for the banks. But it should always be appropriate. A low APR is of no use if the borrower has to pay a high rate that he or she can hardly afford to pay.
- purpose of use: there are earmarked and freely usable loans. In the case of earmarked loans, an APR is lower because they are accompanied by collateral such as a property or a vehicle. This could be used to repay the loan in the event of payment difficulties. You should calculate the effective interest rate accordingly.
- Type of credit: The interest rate depends on the type of credit. Whether an APR changes over the term of the loan also depends on it. For an installment loan or construction financing, it is usually fixed over the entire term. In the case of a framework or overdraft facility, on the other hand, the interest rate can change.
- Creditworthiness: The creditworthiness of the borrower also influences the level of interest rates. The better it is, the lower the interest rate is. Creditworthiness is calculated on the basis of income, income and expenses, and additional collateral. The Schufa information is also decisive.
Direct banks on the Internet usually have the best annual interest rate compared to branch banks, as they do not have a branch network or a large number of employees. As a result, they have low infrastructural expenses and personnel costs. Direct banks partially pass on these high savings to customers. This has a very positive effect on the effective interest rate for installment loans.
Effective interest rate – but what does nominal interest mean??
The nominal interest rate is the pure interest cost or the annual percentage rate of charge. The fees charged by the banks for taking out the loan. The nominal interest rate is what the banks charge for letting the borrower use the capital over the agreed term of the loan. This interest rate usually makes up the main part of the cost of the loan. But with a loan, other services and costs can be added. In the debit interest rate, these additional costs are not included, but in the effective annual interest rate. This includes, for example, fees for certain types of payment or the disagio, which can be found in particular in construction loans. The same applies to the repayment settlement. These are all interest expenses that the debit interest rate does not include, an APR does.
Summary
The annual percentage rate of charge, also known as the effective interest rate, indicates the amount of the costs incurred for the loan. It differs from the debit interest rate (nominal interest rate) in that various factors, such as the loan term and interest payment dates, are included in the calculation. The effective annual interest rate is used to make loans with and without a discount comparable with each other. The lender retains this calculated amount and records it as a processing fee. Only the effective interest rate allows you to make comparisons between different loan offers. It is the most reliable indicator of the cost of a loan with identical terms.
Therefore, when comparing loan offers, you should calculate the effective interest rate. The nominal interest rate is unsuitable for comparing loans, as it does not include any ancillary costs of the loan. The legal provision requiring the disclosure of the effective interest rate therefore makes a lot of sense from the customer's point of view. Equating the two interest rates can cost borrowers dearly. Stating the effective interest rate provides transparency and makes it easier for the consumer to decide for or against the loan. In advance, you should have compared the offers of the numerous banks to choose the best loan.