Bank of Canada Holds Rates Steady
Annual Percentage Rate (APR)
Annual Percentage Rate (APR) represents the total annual cost of borrowing for a mortgage, expressed as a percentage. In Canada, APR includes the interest rate plus fees and costs required to originate the mortgage, providing a more complete view of borrowing costs than the interest rate alone.
Annual Percentage Rate (APR) – Quick Facts
• APR reflects the total annualized cost of borrowing (COB), not just interest
• It includes mandatory lender fees but does not measure compounding effects
• APR is usually higher than the stated mortgage interest rate when fees apply
• Canadian lenders must disclose APR under consumer protection rules
• APR helps borrowers compare mortgages with different fee structures
What Is an Annual Percentage Rate (APR)?
APR is a disclosure metric that expresses the total cost of a mortgage as an annual percentage. It combines the stated interest rate with any compulsory lender-imposed fees required to obtain the mortgage.
APR does not replace the contract interest rate. The interest rate still determines how interest accrues on the mortgage balance. APR supplements that rate by showing how required fees increase the effective cost of borrowing. A mortgage with a lower advertised rate but higher fees can have a higher APR than one with a slightly higher rate and fewer fees.
Importantly, APR does not account for interest compounding. Compounding affects the effective borrowing rate, which is measured by a different metric.
Why Does APR Matter for Mortgages?
APR matters for mortgages because interest rates alone do not reflect the full cost of borrowing when lenders structure fees differently. Two mortgages with identical interest rates can yield different total costs when additional fees are included.
Canadian regulations require lenders to disclose APR so borrowers can compare mortgage offers more accurately. APR becomes especially relevant when evaluating no-frills mortgages, alternative lenders, private mortgages, or products that include lender setup or origination fees. It underscores that the lowest advertised interest rate does not always yield the lowest total borrowing cost.
What Costs Are Included in APR?
APR includes only costs that borrowers must pay to obtain the mortgage. Optional or third-party costs are not included in the calculation. Only compulsory lender-required costs affect APR.
Costs Included in the APR
• Contract interest rate
• Mandatory lender administration or setup fees
• Legal or transfer fees paid by the borrower
• Appraisal fees paid by the borrower
• Broker commission fees paid by the borrower
• Borrower-paid mortgage default insurance premiums, when applicable
Costs Excluded in the APR
• Legal fees paid to third parties
• Home inspections that are not required by the lender
• Property taxes, utilities, and home insurance
• Optional products such as creditor insurance
• Mortgage discharge or penalties for future borrower-driven costs
How Do Lenders Calculate APR in Practice?
Lenders calculate APR by dividing the total borrowing cost by the loan amount and expressing it as an annual percentage. The calculation assumes the borrower holds the mortgage for the stated term and makes all scheduled payments.
APR calculations follow standardized disclosure rules, which allow borrowers to compare offers across lenders even when fee structures differ. While the math behind APR can be complex, the disclosed figure provides a consistent comparison tool.
How APR Works in Practice
APR highlights how fees raise the true cost of borrowing (COB) beyond the advertised rate. This is why APR functions as a comparison tool rather than a payment rate or a qualification rate. APR becomes easier to understand with a numerical example.
Step 1: Identify the mortgage terms.
A borrower obtains a $500,000 mortgage at a 5-year fixed interest rate of 4.50%, with a 25-year amortization.
Step 2: Identify mandatory lender fees.
The lender charges a $1,500 setup fee that the borrower must pay to obtain the mortgage.
Step 3: Combine interest cost and required fees.
APR adds the mandatory $1,500 fee to the borrowing cost but does not spread it over the full 25-year amortization. Instead, APR reflects the cost over the disclosed 5-year term and annualizes its impact.
To do this, the fee is first expressed as a percentage of the loan amount:
$1,500 ÷ $500,000 = 0.003, or 0.30%
That cost is then spread over the 5-year term:
0.30% ÷ 5 years = 0.06% per year
This means the mandatory lender fee adds approximately 0.06% per year to borrowing costs.
Step 4: Express the total cost as an annual percentage.
When the lender factors in the $1,500 fee, the APR increases to approximately 4.60%, even though the contract interest rate remains 4.50%.
The lender adds the annualized fee impact to the contract interest rate to calculate the APR.
Contract interest rate: 4.50%
Annualized fee impact: +0.06%
4.50% + 0.06% = 4.56%
Lenders then apply standard disclosure rounding conventions, resulting in a disclosed APR of approximately 4.60%.
The contract interest rate remains 4.50%, and monthly payments are calculated accordingly. APR indicates that, once mandatory fees are included, the borrower’s true annual cost of borrowing exceeds the advertised rate.
APR Versus Annual Interest Rate (AIR)
The annual interest rate (AIR) determines how interest accrues on the mortgage balance. APR expands on that by incorporating mandatory lender fees.
Two mortgages can share the same interest rate but have different APRs if one lender charges required fees and the other does not. APR allows borrowers to compare these mortgages on an equal basis, even when their advertised rates appear identical.
APR Versus Effective Annual Rate (EAR)
APR does not account for interest compounding. The effective annual rate (EAR), also known as annual percentage yield (APY) in the US, measures the impact of compounding by showing the true annual growth rate of interest.
APR focuses on borrowing costs and fees. EAR focuses on how often interest compounds. In Canadian mortgages, compounding frequency differs between fixed and variable rates, affecting the effective interest cost over time.
APR helps borrowers compare the cost of different loan products, while EAR (or APY) helps explain how compounding influences interest accumulation. Each metric serves a different purpose and should not be confused.
Common Mistakes and Misunderstandings About APR
• Assuming APR and the annualized interest rate always match
• Believing APR reflects interest compounding effects
• Ignoring APR when comparing mortgage offers with fees
• Expecting APR to predict future interest rate movements
• Overlooking that APR assumes the mortgage is held for the stated term
Frequently Asked Questions (FAQ) About APR
Is APR the same as the mortgage interest rate?
APR is not the same as the interest rate. APR includes the interest rate plus certain mandatory fees, while the interest rate reflects only the cost of interest on the loan balance.
Does a lower APR always mean a better mortgage?
A lower APR usually indicates a lower total borrowing cost, but borrowers should also consider flexibility, prepayment options, and penalties.
Is APR required to be disclosed in Canada?
Canadian lenders must disclose the APR on cost of borrowing (COB) disclosures in mortgage documentation under federal and provincial consumer protection laws.
Does APR include mortgage penalties?
APR does not include future penalties, optional products, or costs that depend on borrower behaviour.
How is APR different from APY or EAR?
APR measures borrowing costs and mandatory fees, while APY or EAR measures the effect of interest compounding. They calculate different borrowing costs and are not interchangeable.
Related Terms
• Annual Interest Rate (AIR)
• Effective Annual Rate (EAR)
• Compounding
• Cost of Borrowing (COB)
• Mortgage Fees