When you take a personal loan, the interest rate and the Annual Percentage Rate (APR) often seem interchangeable, but they are not the same. The interest rate is the annual percentage charged on the principal loan amount (just the cost of borrowing). APR, on the other hand, is the annual cost of borrowing that includes the interest rate plus any fees or charges (processing fees, insurance, etc.).
Understanding the difference between interest rate and annual percentage rate is crucial for comparing loan offers and budgeting the actual cost of borrowing.
A simple way to see the difference is this: the interest rate tells you the yearly percentage of the original loan you pay in interest, while the APR shows what you truly pay in a year including extra costs. In practice, the APR will always be equal to or higher than the stated interest rate, because it adds the extra fees to the cost.
Lenders in India are required by RBI guidelines to disclose the APR (called the annualised rate of interest) in the loan Key Fact Statement (KFS) and loan agreement. The infographic below highlights these differences:
Figure: Key differences between nominal interest rate and APR. The interest rate is the basic annual percentage on the loan principal, whereas APR includes interest plus fees and charges.
What Is the Interest Rate?
The interest rate on a personal loan is the annual percentage cost of borrowing that lenders charge on the principal. In India this is often set by the lender based on RBI benchmarks (like the external benchmark linked rates or fixed rates). For example, a bank might charge 12% per year on a ₹5 lakh loan. This 12% determines the EMI (Equated Monthly Instalment) based on loan amount and tenure.
The interest rate alone does not include other costs like processing fees or insurance. It is a basic measure of borrowing cost – but it doesn’t show the full picture if there are extra charges.
Key point: The interest rate is what most borrowers see first – it affects your EMI and the interest portion of payments. However, it does not include loan fees, so it can understate the true cost of borrowing.
What Is the Annual Percentage Rate (APR)?
The Annual Percentage Rate (APR) is a more comprehensive measure of loan cost. It is defined as the total annual cost of borrowing, including the interest rate plus any fees or additional charges. For a personal loan in India, these fees may include processing charges, administrative fees, or insurance premiums.
The APR “provides borrowers with a comprehensive measure of the total cost of borrowing, making it easier to compare different loan offers”.
Key point: APR reflects the true yearly cost. It incorporates both interest and fees, giving you a single percentage that shows the overall expense of the loan. This makes APR a useful comparison tool when shopping for loans.
Because APR includes extra fees, it is usually higher than the interest rate. For instance, if a lender charges 10% interest on a loan and also takes a 1% processing fee, the APR might be around 10.5% or more. By law, Indian lenders must quote the APR in the loan documents, so borrowers can see beyond the headline interest rate.
Interest Rate vs. APR: Key Differences
It helps to compare interest rate and APR side by side. The table below summarizes how they differ:
| Feature | Interest Rate | APR (Annual Percentage Rate) |
| Definition | Annual percentage of the principal charged as interest. | Annual cost of borrowing including interest and fees. |
| Includes Fees | No – only the nominal interest on the loan amount. | Yes – includes interest plus processing fees, insurance, etc.. |
| Total Cost Shown | Basic borrowing cost (excludes fees). | Full loan cost (interest + extra charges). |
| Effect on EMI | Directly determines the EMI (principal + interest). | EMI stays the same, but APR reveals hidden charges. |
| Usefulness for Compare | Good for comparing interest charges across loans. | Best for comparing overall loan deals. |
| Disclosure | Quoted by lenders (no standard formula). | Required by RBI to be disclosed in KFS (loan docs). |
| Relative Size | Usually lower. | Equal to or higher than the interest rate. |
From the table, you can see the core difference between interest rate and annual percentage rate: APR tells the whole story by factoring in additional loan costs. For borrowers, focusing only on a low interest rate can be misleading if the APR turns out to be much higher due to fees.
Why the Difference Matters: True Loan Cost
This difference directly impacts how much you actually pay. Imagine two loans both advertise 12% interest: one has a 2% processing fee and the other has no fee.
Their EMIs (principal + interest payments) might be similar, but the loan with fees will end up costing more because its APR will be higher. Therefore, always compare APRs to know the full cost.
Consider this scenario: you borrow ₹5,00,000 at 12% interest for 5 years (60 months). The EMI on a ₹5 lakh loan at 12% for 5 years is about ₹11,122, so you pay ~₹1.67 lakh in interest over 5 years.
Now assume the lender charges a 2% processing fee (₹10,000), so you effectively receive ₹4,90,000. Including that fee, your effective annual rate (APR) goes up. For example, adding a ₹10k fee raises the APR to about 12.9%, making your total payment (interest + fee) ~₹1.77 lakh instead of ₹1.67 lakh.
RBI Guidelines: Transparency in Loans
In India, the Reserve Bank mandates transparency in loan pricing. For personal loans, RBI requires lenders to disclose the annualised rate of interest (APR) in the Key Fact Statement (KFS) and loan agreement. This means when you get a personal loan, the official documents must clearly show both the nominal interest rate and the APR. The KFS will list the interest rate, the EMI schedule, and any fees, enabling you to compare loans on a like-for-like basis.
In RBI’s recent circular, it explicitly states:
“Annualised rate of interest/Annual Percentage Rate (APR) … shall be disclosed in the Key Fact Statement (KFS) and the loan agreement.”
This rule protects borrowers by ensuring all costs are visible. It means you have the information to understand the difference between interest rate and annual percentage rate. For example, if a bank’s KFS shows a 12% interest rate but an APR of 13%, you immediately know that about 1% worth of costs is coming from fees or charges.
Key takeaways for borrowers: – Read the KFS carefully. It will mention both interest rate and APR.
- Ask about any processing fees, prepayment fees, or insurance charges that affect the APR.
- Don’t focus only on the interest rate: calculate or compare APRs to see the full loan cost.
- Since RBI mandates APR disclosure, use that to shop for better loans.
Example Comparison
To illustrate, suppose two lenders offer a ₹10 lakh loan for 5 years, both at 12% interest. However, Lender A charges a 3% processing fee, while Lender B charges 1%. Here’s a simplified comparison:
| Feature | Loan A (3% fee) | Loan B (1% fee) |
| Principal | ₹10,00,000 | ₹10,00,000 |
| Interest Rate | 12.00% p.a. | 12.00% p.a. |
| Processing Fee | 3% of ₹10L = ₹30,000 | 1% of ₹10L = ₹10,000 |
| Amount Disbursed | ₹9,70,000 (after fee) | ₹9,90,000 (after fee) |
| Tenure | 5 years (60 mos) | 5 years (60 mos) |
| Monthly EMI | ~₹22,245 | ~₹22,245 |
| Total Interest Paid | ~₹3,34,735 | ~₹3,34,735 |
| Total Fees | ₹30,000 | ₹10,000 |
| Total Cost | ₹3,64,735 (interest + fees) | ₹3,44,735 (interest + fees) |
| Approx. APR | ~13.0% (higher due to 3% fee) | ~12.3% (lower with 1% fee) |
Both loans have the same interest rate and EMI, but Loan A costs ₹20,000 more overall because of the higher fee. Its APR (~13%) is higher than Loan B’s (~12.3%). This shows how APR reveals the true difference between loan offers that interest rate alone does not.
Understanding the difference between interest rate and annual percentage rate is key to smart borrowing. Read all loan documents carefully, use tools or calculators that include fees, and compare APRs across lenders. Platforms like LoanTap offer personal loans with transparent displays of interest rate and APR, enabling clear comparisons.
FAQs
Q: Is APR the same as the interest rate?
A: No. The interest rate is just the annual percentage on the loan principal. APR (Annual Percentage Rate) includes the interest rate plus any fees or charges (processing fees, insurance, etc.). In other words, APR gives you the full cost of the loan per year, not just the interest portion.
Q: Which should I compare – interest rate or APR?
A: Compare APRs when evaluating loans. APR reflects all costs, so a loan with a slightly higher interest rate but no fees can have a lower APR than a loan with a lower interest rate and high fees. RBI requires lenders to provide APR in the KFS, so use that for accurate comparisons.
Q: Can APR be lower than the interest rate?
A: No. By definition, APR includes extra charges on top of interest. If there are no fees, APR equals the interest rate; with fees, APR is higher. So APR is always equal to or above the nominal interest rate.
Q: What fees are included in APR for a personal loan?
A: Typical fees include processing fees (often 1–3% of the loan amount), administrative fees, loan insurance, or other one-time charges. These fees are added to the loan cost, so APR accounts for them. Always check the loan agreement to see which fees apply.
Q: How does RBI protect borrowers regarding APR?
A: The RBI mandates that all banks and NBFCs quote the APR in the loan document (Key Fact Statement). This ensures transparency: borrowers know both the headline rate and the APR, showing the total cost. The RBI’s guidelines also cover disclosures if interest rates change (for floating loans).
Q: Can the APR change after I take out a loan?
A: The APR is calculated at loan origination based on initial fees and rates. For floating-rate loans, the interest component of EMI may change if benchmarks move, but the originally quoted APR remains a useful reference for cost. If you refinance or switch to fixed rates, the new loan will have its own APR based on new terms and fees.
Q: Can I negotiate a lower APR?
A: You can try. If you have a strong profile or negotiate fees (e.g., ask for reduced processing fees), that effectively lowers the APR. However, always verify the final APR with the lender before confirming the loan.
Recent Posts
Get instant personal loans with flexible EMIs
