As a borrower, it can be difficult to know which loans and terms are the most advantageous. In order to be able to fairly compare different loans, you should therefore keep an eye on the effective interest rate – with the help of it, you can find out what the total cost of the loan will be. We explain!
How much does a loan cost?
When you borrow money from a bank or lender, you have to pay a cost for lending money, a so-called interest. The interest rate a loan has depends on things such as the term of the loan, how big the loan amount is and how big a risk the loan poses for the bank. To find out what a loan costs in the end (including all fees), look at the effective interest rate.
Low monthly cost does not always mean a good loan
It is easy to think that a low monthly cost automatically means the same as a good loan. But that is not always the case. Many times there are some hidden fees you should be aware of when comparing loans – and therefore you should look at all the loan’s costs, the so-called effective interest rate.
Effective interest – a total cost
By calculating the effective interest rate, you take into account all the loan’s costs (interest + fees) and get a fairer picture of how much a loan will cost you. You can explain it as the effective interest rate works as a comparative price instead of a unit price. You clearly see what the total cost will be and do not stare blindly at the interest cost alone. In this way, it will be easier for you to compare different loan offers to get the most advantageous loan.
Therefore, you must use effective interest
Perhaps you have come across the term nominal interest rate? It is the cost of a loan without fees such as avi fees and set-up fees. Since the fees often differ between different banks and lenders, you should therefore check the total cost and that is what the effective interest rate shows.
The effective interest rate is thus the interest rate that you receive upon application plus your other costs for the loan. It is the effective interest rate you should use when comparing different loan options to get an idea of ??the total cost of the loan.