Rate versus APR, and why the lower rate sometimes costs more

The interest rate determines one thing: your monthly principal and interest payment. Multiply the loan balance by the rate, divide by twelve, add the principal portion, and that is your payment. Nothing else.

It says nothing about what you pay to obtain the loan. A lender can offer almost any rate they want if they are allowed to charge you enough in points to buy it down. That is the lever being pulled when a quote seems unusually good.

The annual percentage rate takes the interest rate and folds in most lender fees: origination, discount points, processing, underwriting and mortgage insurance where it applies. It then expresses the whole package as a single annualized percentage.

That makes APR a fairer comparison tool than rate alone. When two lenders quote the same rate but one has an APR two tenths higher, that gap is fees.

APR has a real limitation, though. It assumes you keep the loan for the full term. Almost nobody does. The average American mortgage is paid off or refinanced in well under ten years, and in a market like Atlanta's, five to seven is common. APR spreads a large upfront fee across thirty years, which makes it look smaller than it will feel.

Forget both headline numbers for a moment and do this instead. Pull up page two of each Loan Estimate, find section A, Origination Charges, and write down the total. Then find the monthly principal and interest payment on page one.

Now pick the number of years you honestly expect to be in the house or in this loan. Multiply the monthly payment by twelve, then by that number of years, and add the origination charges. Whichever quote produces the smaller total wins.

That is it. It takes four minutes and it accounts for the thing APR papers over: your actual time horizon.

Buying down the rate is not a trap, it is a trade. One discount point costs 1% of the loan amount and typically lowers the rate by something in the neighborhood of a quarter point.

On a $400,000 loan, that is $4,000 upfront to save roughly $85 a month. Divide $4,000 by $85 and you get a break-even of about 47 months. If you are confident you will be in that loan for five or more years, the points pay for themselves and then some.

If you are a first-time buyer in a starter home, or if there is any chance rates fall enough to make a refinance attractive, that $4,000 is almost always better in your savings account.

Look at whether the quote includes a lock period long enough to actually close. A 15-day lock produces a lovely rate and a stressful month, and extending it costs money. Compare quotes at the same lock length or you are not comparing anything at all.