NEW YORK (TheStreet) -- What is APR, anyway? The "annual percentage rate" figure quoted on mortgages can be confusing, and government regulations that took effect Friday do little to make them clearer. As a result, an unwary borrower could easily choose the wrong loan.
That's the view of Jack M. Guttentag, emeritus finance professor at the University of Pennsylvania's Wharton School. On his website he describes the new APR tweaks, part of the Dodd-Frank reforms, as "largely useless" for achieving their goal of helping borrowers make apples-to-apples comparisons between loans with different combinations of interest rates and fees.
Not that solving the problem is easy. A key factor in comparing loans is how long the borrower expects to keep them, and even the borrower rarely knows for sure.
Generally, a borrower who opts to pay higher fees, such as "points," gets a lower mortgage rate in exchange, reducing the monthly loan payment. Obviously, if you keep the loan long enough, the savings on payments will offset the extra fees. The Mortgage Points Calculator shows how this works.
The APR figure is meant to provide this comparison at a glance. But the loan with the lower APR may not actually be cheaper if the borrower does not keep the loan for the full term, typically 15 or 30 years.
Guttentag describes a borrower choosing between two 30-year fixed-rate loans for $200,000. The first charges 4.375% and carries no fees, giving it an APR that is the same as the 4.375% loan rate. The second charges 3.375% but carries $19,000 in fees, for an APR of 4.19%.