According to Habib, there are four main assumptions that account for the misleading information:
- APR assumes zero inflation. "It's assuming that the value of a dollar today will be the exact same value of a dollar 10, 20 or even 30 years from now," explains Habib.
- APR assumes the mortgage will never be prepaid or paid off. "The average life of a home mortgage is less than six years," states Habib. "Most people are either refinancing or selling way ahead of the 30-year marker."
- APR doesn't consider the value of the money used for fees. "If you spent thousands of dollars in points or fees to get a lower rate, the APR calculation doesn't give any value to the money if it wasn't spent on closing costs," he adds.
- APR does not take tax consequences into consideration. "This can be significant, because higher fees on the mortgage may not be deductible, while the higher interest rate typically is deductible," Habib emphasizes.
"What makes APR even more dangerous is that it can be manipulated," Habib advises. "This can make it worthless."
APR is not calculated on the mortgage amount, but rather on the "amount financed," which is derived from the Truth in Lending statement. Because the amount financed takes into account lender fees, like application fees, points and commitment fees, as well as interim and per diem interest, it gives lenders variables that they can use to raise or lower the final APR value. The amount financed is equal to the mortgage amount less any lender fees, points and interim interest, so the more fees, the lower the amount financed. Monthly payments are then calculated as a product of the amount financed to give you the APR. The lower the amount financed, the higher the APR. Therefore, lenders can easily manipulate the amount financed by assuming a closing on the last day instead of the first day of the month, which would increase the amount financed and decrease the APR.
According to Habib, the best way to comparison shop for a mortgage is to consider three variables: interest rate, mortgage amount and monthly payment. "A qualified Mortgage Planner will be able to help you to determine which loan truly costs less based on the interest rate, loan amount and monthly payment," explains Habib. "The truth is, APR tends to favor lower rate and higher fee loans, which often end up costing the borrower a lot of money in the long run. Unfortunately, a lot of high fee lenders are counting on under-educated borrowers to use APR-based decisions to put more money in their pockets."
Borrowers looking to learn more about selecting the right loan should educate themselves and consult a qualified and reputable Mortgage Planner, a mortgage originator who is educated on how to best counsel borrowers on how to invest in a mortgage wisely. "The bottom line is that borrowers should forget about APR and think twice about those low advertised rates when they're accompanied by higher fees," advises Habib. "They need to look at the big picture, and they need to look at it realistically with an eye on the future. A little homework goes a long way when choosing a mortgage. It can mean the difference of thousands of dollars every time they buy or refinance."
