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Banking terms explained

APR, AER, EAR are abbreviations of annual percentage rate, annual equivalent rate, equivalent annual rate, respectively. APR is used to express the true cost of the money borrowed on credit cards, loans and mortgages, EAR is used to demonstrate the full percentage cost of overdrafts, AER on the other hand is only used in relation to savings and interest based investments.

What does EPR means? 

APR is most commonly seen, its calculation takes account of the basic interest rate, when it is charged (i.e. annually, monthly, weekly or daily), all initial fees and any other costs you are obliged to pay. As lenders all calculate APR the same way, it enables you to make direct cost comparisons between competing lending products. So if one bank is offering you a mortgage at 4.75% plus an arrangement fee of £450 and a building society is offering you an interest rate of 5.1% with a £100 fee, then the APR figures will show you which of the two mortgages is the cheaper.

There are then two further expressions you'll see that include the term APR. X% APR variable means that the borrowing cost is currently X% but the rate of interest is not fixed and is likely to vary (up or down). The second is X% APR Typical variable. You'll regularly see this expression in loan promotions. It means that the lender cannot be specific about the interest rate you'd be charged as their rates vary, usually in response to your personal credit history and the amount of money you want to borrow. Therefore, X% APR Typical variable, is used to provide a general impression of the interest rate you can expect to be offered. The addition of the word “Typical" means that at least two thirds of applications that the advertiser approves are at that APR or cheaper. Then if a loan is offered to you, the paperwork will reveal the actual APR or APR variable you are being offered.

What does EAR mean?

 Now let’s turn our attention to EAR. It's used to demonstrate the full percentage cost of overdrafts and accounts that can be in credit and also go overdrawn. The calculation accurately illustrates the cost of the overdraft facility. In common with the APR calculation, EAR takes into account of the basic rate of interest charged, when the interest is charged, plus any additional charges. So in most respects EAR and APR do the same thing – it's just that APR applies to pure lending products whilst EAR applies to a product, such as a banking current account, that can be held in credit or go overdrawn.

What does AER mean?

 AER on the other hand is only used in relation to savings and interest based investments. It's concerned with the rate of interest you'll receive on your money. AER is short for “annual equivalent rate". It shows the adjusted rate of interest you'll receive at the end of a twelve-month period taking into account the regularity of which interest is credited to the account. (This is necessary as the frequency of payment has a compounding effect on the amount of interest you actually receive). The formula for AER also removes the effect of any promotional offer that disappears after a few months – a popular ploy used by financial institutions to send their savings products to the top of the Best Buy lists.

EAR is calculated as:

n = number of times a year that interest is paid
r = gross interest rate

For example, a saving account with a quoted interest rate of 10% that pays interest quarterly would have an annual equivalent rate of 10.38%. Investors should be aware that the annual equivalent rate will typically be higher than the actual annual rate calculated without compounding.

Bank, Building Societies, and Credit Unions.

A Bank holds money people deposit, or pay into it, and also lends money out in the form of loans. The interest charged on money it lends is higher than what it pays on any deposits, in this way the Bank make a profit. Bank is owned by shareholders.

Building societies are in essence the same as bank with the exception being they concentrate on mortgages. Building societies are owned and controlled by its members.

Credit Unions are non-profits, or non-commercial businesses, which are owned and controlled by its members.

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