What’s the difference between APR and AER?
27th Apr 2016
When it comes to managing and borrowing money, there are probably a lot of different terms and phrases that you’re not quite sure of. Terms such as APR and AER can seem a little bit too technical to get your head around but not if they’re explained in basic and simple terms.
To help you understand these two terms, we’re going to walk you through what they mean and the difference between them.
APR stands for Annual Percentage Rate and it’s used to describe the total interest and costs you’ll pay when you borrow money. No matter what type of credit you’re looking to take out – a loan, mortgage or credit card – you’ll be able to use the APR to compare different offers and see how much you’ll have to pay back in total.
The APR takes into account not only the interest rate that you’ll pay on a loan but other charges as well. That’s what makes it such a useful tool, as if you were to compare interest rates alone this would not give you the full story.
APRs can vary depending on the lender and the loan or credit card but they’re always worked out as if you were borrowing for a year. For example, if you borrowed £2,000 on a credit card with a 12% APR, this will cost you £240 if you don’t pay anything back over the course of a year. But of course, it’s unlikely that you won’t make any of the minimum repayments so the amount that you’ll pay is likely to be lower.
Usually, the APR is a representative rate. This means that a minimum of 51% of accepted applicants have to get the advertised rate, and the remaining 49% could get a different rate (which might be higher if they’ve had credit problems in the past).
Although APR and AER sound similar, they do have completely different meanings. AER stands for Annual Equivalent Rate and is used to describe how much interest you’ll earn on a savings account over the course of a year.
AER takes into consideration other factors such as compound interest. This is where you earn interest on your initial sum of money, as well as any interest that you’ve previously accumulated. Do bear in mind though that AER doesn’t take into consideration the tax that you could pay on your savings interest.
This won’t affect you when you compare AERs on savings accounts to see which would give you the most interest on your money. But it might not make sense to compare an AER on a traditional savings account with an AER on a cash ISA (where the interest you earn is tax-free). Even if your savings interest isn’t currently over your personal savings allowance, this could change if interest rates rise.
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