Personal Finance

What Is APR vs APY?

APR is the annual interest rate without compounding. APY includes compound interest. Learn the difference and why it matters for loans and savings accounts.

Definition

APR (Annual Percentage Rate) and APY (Annual Percentage Yield) both describe interest rates, but they account for compounding differently. APR is the simple annual rate without factoring in compounding. APY includes the effect of compound interest, making it slightly higher than APR when interest compounds more than once per year.

APR is typically used for loans and credit cards. When a credit card advertises 18% APR, that is the annual rate you pay on borrowed money. APY is typically used for savings accounts and investments. When a savings account advertises 5% APY, that is the actual annual return you earn, including the effect of daily or monthly compounding.

The gap between APR and APY grows with the frequency of compounding and the size of the rate. At low rates (like 2%), the difference is negligible. At higher rates (like 20% on a credit card), the effective cost with daily compounding (APY) can be meaningfully higher than the stated APR.

Real-World Example

A savings account advertises 5.00% APY with daily compounding. The actual APR is about 4.88%. The bank compounds your interest daily, so each day's interest earns interest the next day, producing a slightly higher effective rate. Conversely, a credit card with 18% APR compounded daily has an effective APY of about 19.56% -- meaning you actually pay more than the stated rate if you carry a balance.

Why It Matters

Knowing the difference protects you from both overpaying on loans and misunderstanding savings returns. Lenders typically advertise APR because it looks lower. Banks advertise APY because it looks higher. When comparing savings accounts, always compare APY to APY. When comparing loans, always compare APR to APR. This ensures you are making apples-to-apples comparisons.

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Frequently Asked Questions

Which is higher, APR or APY?

APY is always higher than or equal to APR when interest compounds more than once per year. They are equal only if interest compounds once per year (annually). The more frequently interest compounds, the greater the difference.

Should I look at APR or APY for savings accounts?

APY. It tells you the actual return you will earn, including compound interest. Two accounts with the same APR but different compounding frequencies will have different APYs.

Should I look at APR or APY for loans?

APR is the standard for comparing loans. However, be aware that the true cost of a loan may be higher than the stated APR if interest compounds frequently and you carry a balance.

Related Terms

Compound Interest

Investing Basics

Compound interest is interest earned on both your original principal and previously accumulated interest. Learn how it works, the formula, and real-world examples.

Inflation

Market Terms

Inflation is the rate at which prices rise and purchasing power falls. Learn what causes inflation, how it's measured, and how to protect your investments from it.

ROI (Return on Investment)

Market Terms

ROI measures the gain or loss on an investment relative to its cost. Learn the ROI formula, how to calculate it, and what counts as a good ROI.

Bonds

Fixed Income & Bonds

A bond is a loan you make to a government or corporation in exchange for regular interest payments. Learn how bonds work, types of bonds, and their role in a portfolio.

Amortization

Personal Finance

Amortization is the process of paying off a loan through regular installments of principal and interest. Learn how amortization schedules work for mortgages and loans.

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