We all know that an interest rate is important when it comes to loans for mortgages and school, but few people realize it’s just as important for your savings growth. One letter separates the meanings for each – APR or Annual Percentage Rate and APY or Annual Percentage Yield.
While they are so close in lettering, they are hugely different from one another. Here’s what you need to know about the two terms and the importance of having an understanding of both.
The Differences Between APR & APY
Although both deal with interest rate there is one key factor that takes the cake. COMPOUND INTEREST! APR is interest that is paid = more money leaving your account. APY is interest that is made = more money into your account. We can all agree that money compounding coming in is a lot better than money disappearing.
Take for example, student loans. The original amount is taken out, the money is used for school, then comes graduation and the pay back process. The balance at the end of each day is multiplied by the daily interest amount to calculate the interest owed. Then the interest owed is added to the balance and the next day the interest charged is a bit higher because of the compounding process + management fees etc. PHEW!
Quick Facts of an APR
- Works with loans and mortgages
- Majority of CCs have multiple APRs
- APRs are affected by your financial history
Now for the wonderful APY. The Annual Percentage Yield takes the same compound interest into account to show how much the bank balance has earned. Take for example, saving $100 per month, for 12 months to an account with a $10k balance. Here’s how much interest that would be earned in that time.
.01% APY = $1 of interest
.50% APY = $53 of interest
1% APY = $106 of interest
Can you believe most traditional banks stay at the .01% mark? As we were getting out of debt, we were looking for ways to make our money work for us and stumbled upon ONLINE savings accounts. It was a no brainer to switch as now our APY is nearly 2%!