How to get a Good Deal on a Home Loan: Interest Rate vs APR

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“Hi what’s your interest rate?” If that’s one of the first questions you ask a mortgage lender when you speak to them, they can tell you’re a rookie.

An unscrupulous loan officer, the person who works for the mortgage lender/bank/credit union, might take advantage of you.

What you should be interested in finding out is what your APR is. The APR is the interest rate plus all of the other fees charged by the lender and is a true measure of what a home loan will cost you.

Again, focus on the APR, not the interest rate. Here’s why.

Why Should You Care

First off, this isn’t the wild west of the early 2000s where anybody with a pulse could get a home loan, and where dishonest mortgage lenders took advantage of people everyday. Things are much better now and more highly regulated thanks to a bunch of legislation that has been passed like the Truth in Lending Act.

Lenders have to be honest, upfront and put everything in writing in plain English or face stiff penalties. Does discrimination in lending still happen? Absolutely. But it happens less frequently.

Still, you need to educate yourself. A good realtor and loan officer will look out for you, but you never want to be in a position where you know next to nothing about the home loan process. Now that we got that out of the way, let’s proceed.

illustration of the outside of a bank

How Mortgage Lenders Work

As a reminder, there are two things that are most important to the mortgage lender or bank – your debt to income (dti) ratio and your credit score; specifically your mortgage credit score.

Your credit score determines your interest rate, while your dti ratio determines your loan amount.

As a rule of thumb, your loan amount will be about the same, regardless which lender you work with. After all, lenders are looking at the same income and the same monthly debt.

Therefore, most lenders compete on the quality of service and on fees. An easy way for someone to convince you to work with their bank vs another bank is to say that they can get you a lower interest rate. But the devil is in the details.

APR vs Interest Rate

A lender can get you a lower interest rate, if you’re willing to pay for it. If you’re willing to pay more in fees upfront at closing, then yes, you can secure a lower interest rate for your 15, 20 or 30 year loan.

Higher cost now, lower interest rate over 30 years. Lower cost now, higher interest rate over 30 years. Think of it like a seesaw.

The main way to get a lower interest rate is by buying discount points. In simple terms, you pay money upfront, usually thousands of dollars, in order to lower your interest rate from 7.5% to 7.25% for example.

pic of black mortgage lender showing black man loan estimate

When you ask the lender what your interest rate is, the lender looks at something called a rate sheet. It’s basically a table showing numbers a loan officer can quote you depending on how many discount points you want to buy.

A loan officer can simply quote you a lower interest rate from this rate sheet, not mentioning the fact that it’s going to cost you an additional $3,000 for example, when you get to the closing table. FYI, the standard interest rate with no adjustments by the lender is called the PAR rate.

Then there are other fees charged by the lender – sometimes called junk fees. We sort of hate that term because running a business costs money. Nobody works for free. Anyway, how do you account for all of these fees and rates?

You look at the APR written on the Loan Estimate the lender will provide you. The loan estimate lays out exactly what your anticipated mortgage payment will be including the down payment, interest rate, closing costs, title fees, lender costs such as origination fees, home appraisal costs etc…

Next to “APR” will be a number. This number will be higher than the interest rate quoted because, again, it includes the interest rate plus the cost of the additional fees.

That is the number that you should focus on when comparing lenders. Compare the APR number from one lender to the other lender. That’s how you shop for a loan.

black man strategizing and thinking

Strategy – Finding the Best Deal

All that being said, some people don’t mind paying a higher interest rate because they would rather save money upfront. There are times where the lender can actually credit you money – aka pay you money, at the time of closing.

You should weigh your long term vs short term goals. Are you going to be in the house for 5, 10, 15 years? You may want to consider paying more upfront in exchange for a lower monthly payment.

If this just a starter home and you plan to upgrade in a few years? Then buying discount points in exchange for a lower interest rate probably isn’t worth it.

Strategy #2 – Loan Product

The 3 most common home loans, also called loan products, are: conventional loans, FHA loans, and VA loans.

If you’re a veteran, the choice is simple, get a VA loan. No down payment required and good rates. It’s the best choice for you 9 times out of 10. If you’re not military and you have decent credit, around 660+, then you face a choice between the other two loan products.

FHA loans only require a 3.5% down payment and have a LOWER interest rate than conventional loans. The catch is that you will have to pay for mortgage insurance forever. It never goes away unless you refinance to a conventional loan, which is not guaranteed.

picture of black realtor with couple

Conventional loans have a higher interest rate than government loans (VA & FHA), but the additional monthly payment, called private mortgage insurance, goes away once you have 20% equity in your home. You will see a breakdown of the additional mortgage insurance when a lender quotes you.

There are other loan products like 3-2-1 buy downs, fixed vs variable loans etc…but at that point you and your loan officer should have a more detailed conversation.

There’s also a debate about whether it’s best to work directly with a mortgage lender vs working with a mortgage broker, who is a middleman that can shop your loan to a number of different mortgage lenders.

Let’s not complicate for now. We’re just giving you the basics so you can be more educated when you apply for a home loan, and hopefully you’ve learned a thing or two.

As always, we have a directory of black mortgage lenders on our website. Once you’ve gotten pre-approved for a home loan, let us know and we’ll connect you with a great black realtor.