6 Key Factors That Influence Your APR

Personal loan companies often offer a wide APR range. The rate can vary from 2 percent to over 30 percent, which can be confusing for potential borrowers. 

What determines the APR? 

Why is it important? 

How do I know if I will pay 2 percent, 5 percent or even 30 percent? 

Many key factors influence the APR of your personal loan and determine if your loan falls on the lower or higher end of the advertised range.

What is an APR?

An Annual Percentage Rate (APR), is the yearly amount borrowers will pay on a loan, expressed as a percentage. It differs from interest rates because it accounts for additional fees and charges (except compounding); therefore, it is usually a higher percentage than your normal interest rate. APRs are particularly helpful in comparing loans. While many factors determine if a loan is right for your needs, generally you want to look for a lower APR.

How is APR calculated?

APR is calculated by multiplying the interest rate by the number of periods in a year in which that rate is applied. Investopedia represents this calculation with the following formula:

APR = (((fees+interest/principal)/# of days in loan term) x 365) x 100

What factors influence APR?

six factors that affect the annual percentage rate (APR) you could receive when borrowing money

A number of factors influence a loan’s APR. Six of the most influential factors include the following:

  1. Credit score and history
  2. Debt-to-income ratio
  3. Annual income
  4. Employment history
  5. Loan terms
  6. Interest rate type (fixed or variable)

Credit score and history

Your credit score and history is often the most influential factor on your APR. A variety of factors work together to form your credit score:

  • Payment history
  • Credit utilization ratio
  • Length of credit history
  • New credit — number of accounts, new accounts opened, etc.
  • Credit mix — the different types of debt that you have

Typically, the higher your credit score, the lower your loan’s interest rate. Some personal loan companies have a minimum requirement for credit scores.

  Best Egg FreedomPlus SoFi Upgrade Upstart
Min. credit score 600 620 680 600 620

Minimum credit score requirements do not guarantee that you’ll be approved for a loan, and in most cases you will not qualify for the lowest advertised interest rate. To get the lowest rate possible, you’ll need to have an excellent credit score (typically 700+).

If your credit score is low and you’d like to improve it to either increase your chances of approval, or qualifying for a lower interest rate, there are some options for improving your credit score:

  • Make on-time payments
  • Keep your credit utilization ratio low
  • Avoid closing credit cards
  • Check and/or monitor your credit score

Having a healthy credit score is key for securing a low interest rate, and so it is in your best interest to ensure that it is high and that you’re doing what you can to keep it that way.

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Debt-to-income ratio

Your debt-to-income (DTI) ratio is another major factor when qualifying for personal loans. Your ratio is determined by your monthly debt (such as a mortgage, car loan, etc.) divided by your gross monthly income. This number is typically represented as a percentage. A lower percentage indicates less debt relative to your income. Lenders prefer to see a lower DTI ratio smaller than 36 percent, although there might still be room for negotiation.

Annual income

Annual income affects your debt-to-income ratio and is often taken into consideration when you are offered an APR. Higher incomes typically lead to lower rates. Some lenders may require a minimum annual income.

Employment history

Lenders want to know that their loans will be paid in full. They may look at your employment status and history to determine if you are a high risk: for example, if you change jobs frequently. Customers who are self-employed may also have to submit additional information to verify their employment status and financial stability.

Loan terms

Sometimes the length of the loan may impact its APR. A shorter loan length generally has a lower APR.

Interest rate type (fixed or variable)

Many lenders offer both variable and fixed interest rates, which is directly tied to the APR you will get on a loan.

A variable interest rate is an interest rate that will fluctuate throughout your loan term because it is determined by underlying market factors. Typically, variable rates will be lower, at least at the beginning of the life of a loan; however, the rate will likely rise throughout the life of your loan.

A fixed interest rate will not change throughout the life of your loan. While this can be helpful since your monthly payments will never change, fixed rates are generally higher than variable rates.

Can my APR be negotiated?

Depending on your lender — national bank, credit union, or online lender — you may be able to negotiate a lower interest rate on your personal loan.

Banks are generally very strict in their lending practices and are less likely to budge on rates. In most cases, if you apply for a loan with a bank and are approved, the approval terms are final and you won’t be able to make any changes to your rate or terms. It is important to note that this is also likely the case with online lenders.

Where you might be more able to negotiate a lower interest rate is if you are working with a local credit union. Because credit unions work with members and often have less strict rules, there is a greater chance that you’d be able to negotiate your rates.

Overall, it is easier to negotiate rates if you have a history with a bank or credit union. Thus, negotiating rates with an online lender could be difficult because all they know about you is the information you provide — credit score, debt-to-income ratio, etc. However, if you have worked with a lender before or if you can prove that you have a stable job and income, this could put you in a better position for negotiating rates.

The bottom line

Your annual percentage rate (APR) will be a large defining piece of how much you will pay on your loan each month, and you’ll likely want to keep it as low as possible. And the best place to start is by knowing what an APR is and what affects it.

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