What is a Comparison Rate?
A comparison rate combines both the interest rate and any additional fees into a single percentage figure, giving you a clearer picture of the true cost of your loan. It simplifies the complex world of financial jargon into a straightforward number you can easily compare across lenders.
Understanding comparison rates can save you from financial pitfalls when comparing loan products that seem similar on the surface.
How to Calculate Comparison Rate
The formula is straightforward:
[\text{Comparison Rate} = \text{Interest Rate} + \text{Additional Fees and Charges}]
Where:
- Interest Rate (%) is the annual percentage rate charged by the lender.
- Additional Fees and Charges (%) include any extra costs associated with the loan, expressed as a percentage.
Calculation Example
Let's say you found a loan with:
- Interest Rate: 4.5%
- Additional Fees and Charges: 1.8%
Plug these values into the formula:
[\text{Comparison Rate} = 4.5% + 1.8% = 6.3%]
The comparison rate is 6.3%. This is the number that helps you assess whether this loan is a good deal compared to others in the market.
Why This Matters
Imagine comparing two loans:
- Loan A: 4.0% interest rate, but high fees totaling 2.5% = 6.5% comparison rate
- Loan B: 5.0% interest rate, but low fees of 0.8% = 5.8% comparison rate
Despite Loan A having the lower advertised interest rate, Loan B actually costs less overall.
Reference Table
| Interest Rate | Additional Fees | Comparison Rate |
|---|---|---|
| 4.0% | 1.5% | 5.5% |
| 4.5% | 1.8% | 6.3% |
| 5.0% | 0.8% | 5.8% |
| 5.5% | 1.2% | 6.7% |
Important Considerations
The comparison rate is calculated based on standardized assumptions, typically a $150,000 loan over 25 years. Your actual rate may vary based on your specific loan amount and term. Always read the fine print and consider all features of the loan before making a decision.