Interest rates

killerpeaty

Hi there,

Essentially this is just a question which one of you intelligent people should be able to answer no problem. How are interest rates applied?

I have always believed that interest rates are applied to what you have currently owing. But, my boyfriend believes that the interest rate will be applied to the total amount you borrowed regardless of what you currently owe.
Which one (if either!) is correct?

I understand APRs, opportunity cost, implications of debt and all, it's just that I have never thought it could be any other way until we were discussing his car loan.

Anyway, thank you for your answers.

electrobix99

Your boyfriend is wrong.

Rafter

Your boyfriend might be right!

Car loans were often quoted with all the interest added up front on the total amount borrowed, so 10% for a £10,000 over 3 years would be £3000 of interest, even though the loan is reducing each month as a result of interest payments.

However, The APR MUST be provided showing the interest cost as a percentage of the outstanding balance and would generally be a much higher number.

Just always be careful to compare APR when comparing the different costs of borrowing.

R.

iolanthe07

He may well have a flat rate car loan, in which case he would be right. Car dealerships often use flat rate quotes to confuse potential customers, though the APR should be hidden somewhere in the small print. IMHO it is scandalous that they are able to get away with this, when everyone else has to quote the APR. Doubling flat rate will give a rough indication of APR.

killerpeaty

Well, I never knew that. Thank you for telling me.

If it is a flat rate loan, is it wise to pay it off as much as you can each month like regular loans or save enough to pay it off in one go to avoid additional early payment fees? (sorry if this is also a stupid question, I know nothing about these flat rate loans)

iolanthe07

It really depends on the terms and conditions he signed up to. You need to have a look at the loan contract. There is no such thing as a "flat rate loan". The loans are the same. Flat rate is just an old fashioned and distorted way of quoting the interest rate payable. IIRC from my youth, at one time flat rate quotes were all you got - I think APR quotes came sometime in the 1970's.